Whose Surplus is It?
Washington State Continues to Overcharge Taxpayers
March 1999
For each of the last six years, the state has collected more in general fund revenue than it has spent. Over this period Washington’s budget surplus has grown from an inadequate $234 million to more than $900 million. A prudent "rainy day" surplus should total 5 percent of annual expenditures, or about $500 million. The current excessive surplus indicates that Washington’s residents and businesses are overtaxed.
Last year Washington voters approved a modest cut in the Motor Vehicle Excise Tax when they passed Referendum 49. Even so, our analysis concludes that anticipated revenues and the current surplus justify a further tax cut.
In this study, we consider three spending scenarios and evaluate the opportunity for tax cuts. Governor Gary Locke’s 1999-2001 spending proposal is taken as a high-end starting point; the other two examples assume greater spending discipline. Consistent with the goal of maintaining a responsible, but not excessive, reserve, we conclude that even under the Governor’s proposal a phased tax cut is appropriate: a $75 million tax cut for the 1999-2001 budget, and an additional $150 million tax cut for 2001-2003. At a minimum, therefore, $300 million in tax relief over the next four years can be easily achieved. Under the two alternative scenarios we consider, $544 million and $882 million in tax cuts are possible.
Even under the high-end spending proposed by the Governor, there is room to maintain a responsible reserve and implement a phased tax cut. Better still, with sufficient spending discipline or a willingness to make government more efficient, legislators can provide more substantial and immediate tax relief.
For each of the last six years, the state has collected more in general fund revenue than it has spent. On the one hand, this pattern is commendable: better to be in the black than in the red. Yet the substantial growth in the state’s budget surplus over this period (expanding from $234 million to $900 million or more) reveals another pattern: Washington state has repeatedly overtaxed its residents and businesses. This observation led the Washington Institute Foundation to present four tax reduction options in its February 1998 study of the budget surplus.
To be sure, one must attribute a good deal of the credit for the spending discipline exhibited in the last two biennial budgets to Washington’s citizens. It was they, after all, who passed Initiative 601 in November 1993. The Initiative 601 expenditure limit, which took effect in fiscal year (FY) 1996, establishes an annual spending limit by holding spending increases to the state’s population growth and inflation rate.
Five years after passing Initiative 601, Washington voters were presented with another important budget-related decision. They responded by approving Referendum 49 by a wide margin, thereby reducing the state tax burden by about $130 million per year ($258 million for the 1999-2001 biennium). Referendum 49 cuts the Motor Vehicle Excise Tax (MVET) while, at the same time, increasing funding for transportation and local government. The provision of this seemingly incompatible combination (increased spending with decreased revenue) is accomplished through the sale of $1.9 billion in 25-year bonds and by eliminating the general fund share of MVET revenue (through the tax cut and by shifting these dollars—$213 million in 1999-2001—to support transportation and local government).
Even after taking into account the impact of Referendum 49, our analysis concludes that anticipated revenues and the current surplus more than justify a further tax cut. Even if we assume a 1999-2001 spending level as high as proposed by Governor Locke, a $75 million tax cut in 1999 and another $150 million in 2001 are appropriate. Better yet, deeper tax cuts are possible if the Legislature displays greater spending discipline or implements cost-cutting measures.
In December 1998, Governor Locke announced his proposed $20.577 billion 1999-2001 budget. At the same time, he proposed a $72.6 million supplemental budget for the final six months of the current biennium, covering January through June 1999. His 1999-2001 budget, in fact, assumes passage of his supplemental budget proposal and its associated increase in the 1999-2001 spending limit. Without a 1999 supplemental budget, the Governor would have been constrained by an Initiative 601 expenditure limit of $20.488 billion for 1999-2001.
Included in Governor Locke’s two-year budget is $876 million for his new spending proposals. Maintaining the state’s current level of services would require a state budget of only $19.862 billion. The Governor’s overall spending level incorporates a modest $161 million in program savings or reductions.
The Governor’s proposed budget spends more than $400 million of the state’s unrestricted surplus. The projected total ending balance for FY 2001 is $522 million. Extending the view through FY 2003, however, shows that the budget surplus is likely to kick back upwards—to more than $800 million if we assume the Governor’s budget for 1999-2001. In other words, even under the Governor’s spending plan and after the Referendum 49 MVET tax cut, the state continues to collect too much money from taxpayers.
Governor Locke’s 9 Cent Per Person Tax Cut
Included in Governor Locke’s budget is a collection of minor tax proposals. One example is a business and occupation (B&O) tax exemption for locating software firms in distressed areas. All told, the net effect of the Governor’s tax proposals is a $500,000 cut in general fund revenues, or less than a nine cent reduction per state resident. His $500,000 revenue reduction compares to his proposed $1.243 billion spending increase (or one penny in tax reductions for every $25 in new spending). Not exactly tax relief.
The state should aim to collect revenues sufficient to fund an appropriately sized budget and maintain a prudent reserve. Beyond that point, excess revenues constitute an unjust extraction from the men and women of Washington state.
A reserve or "rainy day" fund is designed to provide the Legislature with adequate time to react to unexpected economic downturns. In our earlier study, "Washington’s Tax Surplus: Keeping Faith with Washington’s Taxpayers," we recommended that the state’s reserve should total five percent of its annual (not biennial) expenditures. Thus, a prudent reserve for Washington state given current spending levels would total around $500 million. For five of the past six biennia the state’s ending budget balance has exceeded the 5 percent standard, instead averaging 7.6 percent. The ending surplus for the current biennium will total between 9.1 percent and 9.9 percent of FY 1999 expenditures, depending on the size of the 1999 supplemental budget. This is nearly double what the state needs to maintain a prudent rainy day fund.
Of course there is much debate over what constitutes an "appropriately sized" budget. For the sake of this analysis, we use the Governor’s proposed 1999-2001 budget as a starting point, which we will consider to represent the high end of the range of appropriately sized budgets. Also for this analysis, we assume a 1999 supplemental budget of $50 million. The Senate approved a $50.8 million supplemental budget in January 1999, much less than the Governor’s proposed $72.6 million. As of this writing, it is unclear whether the House will approve any supplemental budget at all.
Scenario #1: $50 million supplemental, Governor’s 1999-2001 Budget
Table 1 depicts the general fund balance sheet, given anticipated revenues and the above spending assumptions. Consistent with our goal of maintaining a responsible, but not excessive, reserve, we conclude that even under the Governor’s proposal a phased tax cut is appropriate: a $75 million tax cut for the 1999-2001 budget, and an additional $150 million tax cut for 2001-2003. After such cuts, the ending reserve for FY 2001 would total about $470 million, or nearly 4.5 percent of FY 2001 expenditures. Using current revenue forecasts, the FY 2003 ending balance would total around $510 million, or 4.6 percent of FY 2003 spending, assuming expenditures up to the Initiative 601 limit.
As noted above, the Governor’s budget proposal was taken as a starting point. Deeper tax cuts are possible if the Legislature exhibits greater spending discipline or identifies more opportunities for program savings. Consider the two examples below, each of which maintains a responsible rainy day reserve of about $500 million.
Scenario #2: No Supplemental Budget
The Legislature’s consideration of the 1999 supplemental budget represents an immediate opportunity to display a commitment to tax relief. Because the Initiative 601 spending limit for 1999-2001 is based on total spending for 1997-99, boosting spending in the last few months of the current biennium allows for additional spending in the next biennium. Simply resisting the temptation to pass a supplemental budget would allow for an immediate $200 million tax cut for 1999-2001 and an additional $125 million cut for 2001-2003. Doing so would provide an additional $237 million in tax relief (over the four-year period) compared to Scenario #1, which assumed a $50 million supplemental budget.
Scenario #3: No Supplemental, Trim $250 million from Governor’s Budget
Rejecting a supplemental budget and trimming $250 million off of the Governor’s 1999-2001 budget proposal would permit a $350 million tax cut for 1999-2001 and another $150 million for 2001-2003. Over the four year period, this represents $575 million more in tax relief than provided in Scenario #1. A $250 million reduction from the Locke budget amounts to a $20.327 billion budget, which is still $1.243 billion over current 1997-99 appropriations, a 6.5 percent increase.
Our previous study, "Washington’s Tax Surplus," discussed the revenue impact and the merits of four different tax cut options. One of the four, the MVET, is not relevant for this study because, after Referendum 49, the MVET no longer funds the state’s general fund budget. The other three (the sales tax, the business and occupation tax and the real estate excise tax), however, remain prime candidates for reduction, as does the state property tax. Tables 2 through 4 estimate how much each of these taxes could be reduced under the three tax cut scenarios discussed above.
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TABLE 2: Tax reduction options under Scenario #1 |
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Cut taxes $307 million ($75 million for 1999-2001; $150 million for 2001-2003) |
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Current Rate |
1999-2001 Rate |
2001-2003 Rate |
Sales tax (state) |
6.50% |
6.45% |
6.37% |
B&O Tax |
Various |
-2.05% |
-5.91% |
R.E.E.T (state) |
1.28% |
1.14% |
0.86% |
Property tax (state) |
$3.60 per $1,000 |
$3.50 per $1,000 |
$3.31 per $1,000 |
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TABLE 3: Tax reduction options under Scenario #2 |
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Cut taxes $544 million ($200 million for 199-2001; $125 million for 2001-2003) |
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Current Rate |
1999-2001 Rate |
2001-2003 Rate |
Sales tax (state) |
6.50% |
6.38% |
6.30% |
B&O Tax |
Various |
-5.47% |
-8.76% |
R.E.E.T (state) |
1.28% |
0.92% |
0.66% |
Property tax (state) |
$3.60 per $1,000 |
$3.33 per $1,000 |
$3.17 per $1,000 |
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TABLE 4: Tax reduction options under Scenario #3 |
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Cut taxes $882 million ($350 million for 1999-2001; $150 million for 2001-2003) |
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Current Rate |
1999-2001 Rate |
2001-2003 Rate |
Sales tax (state) |
6.50% |
6.28% |
6.19% |
B&O Tax |
Various |
-9.57% |
-13.57% |
R.E.E.T (state) |
1.28% |
0.64% |
0.32% |
| Property tax (state) |
$3.60 per $1,000 |
$3.12 per $1,000 |
$2.93 per $1,000 |
Tables 2 through 4 estimate total tax relief over the four year period for each of the three tax cut scenarios: $307 million, $544 million and $882 million, respectively. How the tax relief is distributed, of course, varies depending on which tax is cut. A cut in the state sales tax would immediately affect all citizens and businesses; a B&O tax reduction would begin to ease the excessive tax burden placed on Washington businesses; and, of course, property owners are the direct beneficiaries of reductions in the state property tax or the state’s portion of the real estate excise tax.
From the citizen’s standpoint, the benefits of a tax cut can accumulate gradually or be felt immediately, depending on which tax is reduced. For example, consider Scenario #3 after the second tax cut. A sales tax reduction from 6.5 percent to 6.19 percent would provide tax relief in small, but almost daily, increments. A reduction in the real estate excise tax, from 1.28 percent to 0.32 percent, would provide immediate and substantial relief for those involved in real estate transactions. On the sale of a $150,000 home, the state portion of the R.E.E.T. would drop from $1,920 to $480, a savings of $1,440. If the property tax rate were reduced from $3.60 per $1,000 to $2.93 per $1,000 the annual property taxes on that same $150,000 home would drop about $100.
Washington’s citizens are overtaxed. Even under Governor Locke’s proposed 1999-2001 spending plan, the state will extract from Washington’s residents $75 million more than it needs to run state programs. Thus, even under the high-end spending proposed by the Governor, there is room to maintain a responsible reserve and implement a phased tax cut. Better still, with sufficient spending discipline or a willingness to make government more efficient, legislators can provide more substantial and more immediate tax relief.
Last year, through Referendum 49, the Legislature asked Washington voters if they deserved a tax break and they answered "yes." This year, legislators ought to provide tax relief without bothering to ask.
Jeff Hanson is a Research Analyst at the Washington Institute Foundation, where he works on state and local tax and budget issues, as well as on transportation and privatization topics. This study is Jeff’s first publication for the Washington Institute. He previously worked for the Evergreen Freedom Foundation and for the California Legislature. A native of Stanwood, Washington, Jeff is a Ph.D. candidate at the Claremont Graduate University in Claremont, California, where he received a master’s degree in International Studies. He earned a bachelor’s degree in political science and mathematics from Linfield College in Oregon.