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States Will Look to Increase Taxes to Recover From Pandemic

Posted on Oct. 29, 2020

States will likely increase taxes and cut budget spending to recuperate from the economic impact of the COVID-19 pandemic but are not likely to cut healthcare or education spending, according to tax practitioners.

States with the worst budget outlooks will likely raise existing taxes rather than implement new ones, according to Helen Hecht, uniformity counsel for the Multistate Tax Commission.

“If states need revenue now because this is a sudden and significant crisis, then existing taxes are going to be the best bet,” Hecht said during the Tax Executives Institute’s annual conference October 27. New taxes present a number of problems including implementation, she said, noting that the revenue from new taxes is “inherently unpredictable.”

Some small tax changes that states could explore include increasing current excise taxes such as tobacco and alcohol, according to Todd A. Lard with Eversheds Sutherland (US) LLP. States could also explore excise taxes on vaping, sports betting, and recreational marijuana, he continued.

But David Brunori of RSM US LLP said that would not be very helpful. “Anyone who thinks they’re going to balance using marijuana taxes is high.”

Some medium-level tax changes states could consider include repealing or limiting tax credits, limiting or suspending net operating loss deductions, and eliminating or limiting various tax expenditures, according to Brunori

Budget legislation enacted in California includes a temporary suspension of NOL deductions for some businesses and caps the amount of income that can be offset by business tax credits. The changes were proposed by Gov. Gavin Newsom (D) in his May budget in response to the state's looming $54 billion budget deficit. The provisions are expected to raise $1.8 billion and $2 billion, respectively, in fiscal 2021. 

Other options include broadening sales tax bases to include digital goods and services, Brunori said.

Hecht said some of the major tax changes states could make include increasing taxes such as individual, sales, and corporate taxes, all of which are major revenue raisers for states. She said states could also explore a millionaire tax or an excess profits tax

New Jersey lawmakers recently expanded the state's millionaire tax — previously levied at 10.75 percent on gross income over $5 million — to include income over $1 million. The bill, signed into law September 29, is expected to generate $390 million in fiscal 2021.

Taxes on multinational enterprises and other big businesses are also an option However, states would be less likely to implement such taxes if there is an economic turnaround in 2021, Hecht added.

Hecht said that if states will not consider tax changes, they will have to cut government spending. Brunori noted that it is unlikely states will cut funding for healthcare or education but might consider cutting funding for parks or new hires.

Lard noted that some states will struggle with economic recovery because many of their budgets for fiscal 2021 were already complete or nearly complete when the pandemic hit.

Legislatures are also facing operational problems, such as how to meet or work around limitations caused by health precautions necessitated by the pandemic, Lard said, noting that some states have constitutional requirements for legislatures to meet in person.

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