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Budget Basics #1 – Understanding the State Budget Deficit

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Budget Basics #1 – Understanding the State Budget Deficit October 2015

The first installment of a LABI research series to help employers understand the Louisiana state budget, the reasons for the deficit, and potential solutions for government to prioritize spending and promote economic growth and individual prosperity. 

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Louisiana State Budget – Spending Categories

The Louisiana Legislature appropriated more than $25 billion in the current fiscal year (FY 2016).  This spending can be broken down into six major categories.  The largest, by far, is healthcare and social services followed by education, which includes both K12 schools and higher education.

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Louisiana State Budget: 44% growth since 2005

In Fiscal Year 2005, just prior to Hurricanes Katrina and Rita, the Louisiana Legislature appropriated $17.5 billion – nearly $8 billion less than today.  This represents 44 percent growth from Fiscal Year 2005 through Fiscal Year 2016.  Of this figure, state spending grew 35 percent and federal funding grew 58 percent. 

In addition to federal funds, there are three broad categories of state financing:

State General Fund (32 percent growth), which is made up of most sources of tax revenue and funds the general operations of state government;

Fees and “self-generated revenue” (80 percent growth), which consists of various consumer and commercial fees and fines that fund the related services of numerous state agencies; and

Statutory dedications (25 percent growth), which represent a diverse array of appropriations, fees and fines, and grants that are designated in the Constitution or in law for a specific purpose within state or local government.
 

This chart reflects the sizeable increase in state spending – largely as a result of federal funds – due to recovery efforts following Hurricanes Katrina and Rita.  As these dollars began to recede from the state and the economy, the national recession hit in 2008 and 2009.  In that same year, the effect of the 2007 and 2008 legislative decisions to grant large tax cuts to individuals became evident; these new laws reversed the income tax changes passed in the 1990s known as “the Stelly plan” and resulted in more than $800 million in reductions in state revenues according to legislative fiscal staff. 

These three seismic events resulted in a perfect storm for the state budget.  Since that time, the state has consistently faced a budget deficit running hundreds of millions of dollars annually.  Short-term fixes have essentially maintained the general size of state government from Fiscal Year 2011 until the current year.

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Louisiana GDP: 25% growth since 2005

Contrast the growth rate of state government with the state’s Gross Domestic Product over the same period.  In 2014, the GDP in Louisiana was $251 billion.  In 2005, the figure was $200 billion.  This represents a 25 percent growth rate from 2005 to 2014.

Growth in the state’s real personal income over this same time period is estimated by Moody’s at almost 29 percent.  Non-farm employment over this period grew 3.7 percent from December 2004 to December 2014.

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Three Major Factors Behind Louisiana's State Deficit

This analysis examines three major factors contributing to Louisiana’s state deficit:

  1. Revenue
  2. Spending
  3. The structure of the state budget itself with various forms of locked-up funding that make the prioritization of services virtually impossible
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Contributors to the Deficit: Revenue

Although Louisiana has experienced overall growth in state sources of revenue over the past decade, a series of factors continue to challenge the tax base.

  • The national recession from 2007 to 2009 is widely known as the Great Recession due to its length and intensity.  Louisiana was not spared.  Consumer spending dropped, unemployment increased, GDP declined, and recovery has been slow and sluggish.
  • The large increase in tax collections and government spending related to the recovery from Hurricanes Katrina and Rita began to dissolve in the midst of the Great Recession, compounding Louisiana’s fiscal challenges.
  • During this recovery mode – when revenues were high – the state increased spending on recurring items such as worker raises and offered tax cuts as well.
  • The reversal of the Stelly tax changes in 2007 and 2008 is now estimated to have an annual impact as high as $800 million.  Some experts say this change represented the largest individual income tax cut in Louisiana history, and it comes as no surprise that the state’s tax collections dramatically decreased quickly thereafter.
  • The dollar figure of tax exemptions are increasing annually, and the Louisiana Department of Revenue projects these tax expenditures will have grown by more than $1 billion between Fiscal Year 2012 and Fiscal Year 2016.  There were more than 400 exemptions valued at roughly $7.7 billion in Fiscal Year 2014.  The single largest exemption is the federal deduction offered to all individual and corporate taxpayers in the state – costing more than $1 billion annually. (See next slide.)
  • Looking forward, tens of billions of dollars in industrial expansions have been announced in recent years.  With the volatility in the price of oil, global market challenges, and a sluggish recovery nationally from the Great Recession, a number of projects are underway but delayed, and the anticipated permanent jobs have not yet come online.  As a result, announced projects have largely not translated to tax revenues (yet).
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The Perfect Storm Hits Louisiana Tax Collections

Looking back – similar to the budget slide earlier in this presentation – Louisiana experienced a dramatic drop in tax collections from Fiscal Year 2008 to Fiscal Year 2010, reflecting a perfect storm of events: the end of the post-Hurricane temporary economic growth and federal recovery funds, the onset of the national recession, and the reversal of the Stelly tax plan in 2007 and 2008. 

Personal income tax collections alone dropped from $3.24 billion in Fiscal Year 2008 to $2.24 billion in Fiscal Year 2010 – more than $1 billion reduction.  Corporate income and franchise tax revenues also dropped during this period from $994 million to $580 million – a reduction of roughly $400 million over two years.

Since that time, corporate income and franchise tax collections have grown by 89 percent – from a low of $264 million in FY2011 to $497 million in FY15.  Meanwhile, personal income tax collections are growing much more slowly at just 21 percent. 

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Louisiana Tax Exemptions Utilized By All Taxpayers

Although this issue of Budget Basics focuses on the state budget, it is important to briefly examine tax exemptions and credits due to the widespread attention to this topic over the past year.  While reports would suggest that corporate tax exemptions are out of control and solely responsible for the state’s budget challenges, the data suggests a combination of factors are at play for the growth in tax exemptions.

Tax exemptions totaled $7.7 billion in Fiscal Year 2014.  Sales tax exemptions are the most widely utilized ($2.9 billion) of all revenue categories (39 percent of the total).  Of these, sales of electric power or energy to residential and commercial customers, the sale of food for preparation and consumption in the home (groceries), sales of gasoline, and prescription drug sales are the Top Five most utilized sales tax exemptions.

Individual income tax exemptions come in next at $2.1 billion, making up another 27 percent of all tax exemptions.  The federal income tax deduction is by far the largest exemption at $812 million annually.  This is followed by excess federal itemized deductions ($346 million) and the standard deduction/personal exemption ($248 million).

These two categories alone – sales tax and individual income tax exemptions – total roughly $5 billion and represent more than two-thirds of all tax exemptions.  Furthermore, the share of the pie is growing.  Individual income tax exemptions grew more than 100 percent in the past five years, while corporate income tax exemptions grew 27 percent.

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State Revenue Forecast: 9% growth through 2019

Meanwhile, the amount of taxes, licenses, and fees collected by Louisiana state government are projected to continue to increase over the next five years. 

Of note, the State General Fund is a subset of state taxes, licenses, and fees.  The difference in these two figures represent roughly $2 billion in dedications that are required by law to be spent on a specific state or local governmental purpose and are not available for the general operations of state government.   

The anticipated growth rate from Fiscal Year 2016 to Fiscal Year 2017 is 4.65 percent in part because of temporary revenue increases enacted by the Legislature in 2015.  By contrast, state revenue projections slightly drop between Fiscal Year 2018 and Fiscal Year 2019 because of the sunset of these same temporary revenue increases, not because the economy is projected to worsen at this time.  Prior to the artificial bump of these three-year tax changes, the trajectory showed steady revenue growth.

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Contributors to the Deficit: Spending

Louisiana tops the Southern states on U.S. Census reports of state and local government per capita spending.  Louisiana state government has more “direct expenditures” per capita than any other state with SEC schools.  The state spends an estimated $5,577 per person each year, ranking #16 nationally

Louisiana’s local government also tops the Southern states in per capita expenditures, spending an average of $4,931 per person each year according to the U.S. Census Bureau, ranking #13 nationally.  An estimated 32 percent of local revenues in Louisiana are from the state.  Interestingly, those states that rank lower on state spending tend to rank higher on local spending (Florida, Georgia, Tennessee, and Texas).  Louisiana, however, ranks high on both.

To put it another way, Louisiana’s state and local government spends an amount equivalent to roughly 20 percent of the state’s GDP.

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Major Areas of Growth in State General Fund Spending Over Ten Years

As is widely reported, some areas of the state budget have certainly received disproportionate spending reductions in recent years as a result of Louisiana’s failed budget structure.  However, in contrast, other expenditures continue to rise disproportionately every year.  Nearly all of the examples below illustrate growth within the state budget even beyond the 44 percent overall figure shown in the initial slides of this presentation.

  • The state’s Medical Vendor Payments program provides direct payments to medical service providers for health care services for Medicaid-eligible Louisiana residents. The state spent $5.1 billion on Medical Vendor Payments in Fiscal Year 2005, which grew to $8.1 billion in Fiscal Year 2015.  This includes an increase of $1.1 billion in State General Fund, which equates to 154 percent growth over ten years.
  • The state’s Minimum Foundation Program (MFP) funds the operations of K-12 schools statewide.  The MFP received $2.6 billion in Fiscal Year 2005, which grew to almost $3.6 billion in Fiscal Year 2015 – a 38 percent increase that cost the State General Fund more than $900 million.
  • The annual state contribution for the retirement of government workers has risen dramatically.  For the Louisiana State Employees’ Retirement System (LASERS), the state’s employer contribution was an estimated $389 million in Fiscal Year 2005.  In Fiscal Year 2014, legislative auditor’s reports show that the annual state employer contribution increased to more than $700 million, nearly all from the State General Fund.  This represents an increase of 83 percent and does not include the increases for the other three state retirement systems.
  • The Corrections budget – despite significant reductions in recent years – costs the State General Fund $93 million more in Fiscal Year 2015 than in Fiscal Year 2005. This 24 percent increase brings the State General Fund total for Corrections to $475 million in Fiscal Year 2015.  Similarly, state funds to house prisoners in local jails also increased from $152 million in Fiscal Year 2005 to $181 million in Fiscal Year 2015 – an increase of 19 percent or $29 million in State General Fund.
  • The TOPS program for scholarships to Louisiana’s post-secondary schools has grown dramatically more expensive.  The Louisiana State Office of Financial Aid received $158 million in Fiscal Year 2005 for TOPS and financial aid programs, which grew to $345 million in Fiscal Year 2015.  Of note, recent dedications to TOPS have minimized the overall growth in State General Fund to 88 percent or $92 million over ten years.  The growth with all sources of revenue is 118 percent or $186 million more in Fiscal Year 2015 than Fiscal Year 2005.
  • The Louisiana Constitution requires the state to supplement the pay of local law enforcement.  These payments increased 77 percent in the past ten years, which are entirely funded by the State General Fund.  In Fiscal Year 2005, supplemental pay cost $71 million.  In Fiscal Year 2015, this grew to $127 million.
  • The Louisiana Judiciary received $101 million from the State General Fund in Fiscal Year 2005 to fund judicial salaries and the operations of the Supreme Court and appellate courts.  This figure grew by 54 percent over the past ten years to $155 million in Fiscal Year 2015.
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Spending is Growing Faster Than Revenue – Deficit

The data on spending in state government offers some insight on why Louisiana continues to face deficits year after year.  In short, the cost of the services provided by government are growing faster than revenues. 

This slide is a snapshot of the monthly statement reviewed by the Joint Legislative Committee on the Budget.  The September 2015 State General Fund projections paint a clear picture.  While taxes, licenses, and fees climb higher every year – $11.3 billion is projected for Fiscal Year 2017 – the state’s spending projections increase even more.  The projected cost of funding the general operations of state government in Fiscal Year 2017 is $10.1 billion.  However, after dedications of certain tax revenue are removed to fund other areas of state government, the balance of the State General Fund revenue is only $9.3 billion. 

Expenditure growth between Fiscal Year 2016 and 2017 is nearly 14 percent, while revenue growth is less than 5 percent.  This delta is the state deficit projected for next year: $713 million.

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Contributors to the Deficit: The Budget Structure and Locked-Up Funds

Compounding the recurring deficit crisis is the fact that most of Louisiana’s state budget is considered “off-limits” to annual review or reductions. 

  1. In some cases, the Constitution requires additional spending, such as the Minimum Foundation Program for K-12 schools.  This category of “non-discretionary spending” was appropriated more than $6 billion this year.
  2. In other cases, state agencies charge fees for services or collect fines for enforcement of state law, generating revenue that is appropriated but rarely reviewed.  These so-called “self-generated revenues” total $2.3 billion in Fiscal Year 2016.
  3. Finally, nearly 400 dedications of revenue exist in state law and the Constitution.  These “stat deds” make up $3.8 billion in Fiscal 2016.  Roughly $1 billion are generated from fees and assessments, while the remainder are either diversions of what would otherwise flow into the State General Fund or consist of legislative appropriations, grants, or other revenue sources.
     

Of note, spending has grown in these categories of state funding as well. Much like the growth in particular areas of the State General Fund depicted on Slide 11, sizeable increases in state spending have occurred in some areas while others have declined.  For example, according to data from the Louisiana House of Representatives, the state share of the budget of the Department of Wildlife and Fisheries has grown 141 percent from Fiscal Year 2005 to Fiscal Year 2015.  Similarly, the state share of the budget for the Office of Attorney General and the State Treasurer has grown 79 percent and 50 percent since Fiscal Year 2005 respectively.  State funding for legislative expenses has also increased 68 percent over this ten-year period from $64 million in Fiscal Year 2005 to $108 million in Fiscal Year 2015.  

However, growth in state dollars that are not from the State General Fund rarely receive public discussion or scrutiny in the budget process. All locked-up funding must be addressed to achieve a long-term budget solution.

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Coming Soon…
Budget Basics #2 – A Closer Look at "Locked-Up" Spending

The next installment of Budget Basics will focus on all three forms of locked-up state funding, which total roughly two-thirds of the entire state budget.  The good news is that we have worked ourselves into this fix, but we can work ourselves out.

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