Why States Shouldn't Count on Another Big Income Tax Boost in 2013

RBC municipal analyst Chris Mauro warns that the boost at the end of 2012 was an anomaly driven by a rush to cash in on capital gains and other income in anticipation of new tax increases in 2013.
by | April 3, 2013
 

Most states saw a surge in tax revenue growth at the end of 2012, but according to Wall Street analysts, governments shouldn’t count on that happening again in the near future.

U.S. Census Bureau data released last week shows that overall state tax revenues increased 4.9 percent during the fourth quarter of 2012 from the same period in 2011. The main reason behind the burst is attributed to a 10.3 percent increase in personal income tax collections.

Also driving the growth were big gains in California, New York and Texas, which made up 56 percent of the growth in overall state tax revenues. But RBC municipal analyst Chris Mauro warns that the boost was an anomaly driven by a rush to cash in on capital gains and other income in anticipation of new tax increases in 2013.

“A lot of it’s temporary,” Mauro told Governing this week. “[State governments] certainly shouldn’t budget off this number, that’s for sure. Tax growth had been growing in the low, single digits for the first three quarters [in 2012] and there’s no reason to believe we’ve achieved some kind of new level here.”

Indeed, the fourth quarter stands out compared to the rest of 2012. Personal income increased by nearly 2 percent from the third quarter of 2012 -- the largest quarterly increase in nominal personal income since the 2.9 percent jump during the first quarter of 2011, according to Mauro’s March 28 municipal report. By contrast, quarterly growth in both the second and third quarters of 2012 was less than 1 percent. But more than half (60 percent) of the quarterly increase is thanks to dividend, interest and rent income, according to the report.

On the state level, dividends contributed to at least 50 percent of the quarterly increase in personal income in 43 states, according to Mauro’s report. South Dakota was an outlier with a little more than 70 percent of personal income growth driven by net earnings as year-end crop insurance payments boosted income.

The new year brought on several new tax increases that largely affected higher earners. An income tax hike as part of the fiscal cliff deal in January created a new 39.6 percent rate (from 35 percent) for unmarried people with taxable income above $400,000, married couples with income over $450,000, married couples filing separately over $225,000 and heads of household with taxable income over $425,000.

Additionally, 2013 brought on higher tax rates for long-term capital gains and dividend income for the wealthy. The tax rate for those with higher incomes (as noted above) increased from 15 percent to 20 percent.

Mauro said it was not possible to determine whether the income shifting would translate to overly deflated income levels for the first quarter of 2013. However, early January numbers show a nearly opposite trend with dividend income: While the component in December 2012 jumped 33 percent from the November 2012 figure, dividend income in fell by about 35 percent from December.

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