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Unbalanced Budgets

Fiscal 2017 isn't starting off so well for some states.

In Mississippi, officials announced they need to withdraw up to $63 million from the rainy day fund to cover declining revenues that left it with an $85 million budget shortfall. The announcement came just two days after the legislature removed the state’s restriction on how much it can withdraw from the fund in any given year. It reduces the state’s savings to just 1.4 percent of its general fund budget. Both moves drew criticism from Moody’s Investors Services.

Pennsylvania this week was placed on a credit watch by Standard & Poor’s rating agency for passing a budget that failed to offer a spending plan for more than $1 billion of it. Lawmakers eventually agreed on a revenue plan, but it still requires borrowing more than $200 million from a separate state fund.

Moody’s also criticized Kansas this week for yet another shortfall. We recently mentioned that Kansas is one of four states in a recession, according to federal economic data. Its total tax revenue was more than 7 percent short of what it expected for fiscal 2016. The state has struggled to meet its revenue expectations ever since lawmakers approved income tax cuts in 2012 and 2013.

“Kansas,” said Moody’s, “has adopted a particularly reactive approach to modest revenue growth, continuing to overestimate revenues and then annually scrambling to modify the budget and raid available funds.”

The Takeaway: It shouldn’t come as a surprise to anyone that these states are being flagged by ratings agencies. Ratings agencies really hate it when governments don’t pass structurally balanced budgets, never mind the pressure it puts on taxpayers who must make up the difference when finances don’t go as planned. One-time fixes like savings withdrawals won’t cause a ratings downgrade the first time -- but habitual offenders raise red flags.

Taxing Alaska

After failing to get an income tax approved by the Alaska Legislature, Gov. Bill Walker is changing his tactics.

At the start of the state’s second special session beginning this week, Walker proposed a new state sales tax that he says would generate $500 million in new revenue each year. Walker is still pushing for an income tax -- which would add $200 million annually to state coffers -- but has offered the sales tax as an alternative option. Alaska currently doesn’t have a state income or sales tax.

The prolonged drop in oil prices has hammered Alaska’s budget, which largely relies on oil revenue. To meet expenses, the state has drawn its substantial rainy day fund down over the past two years and is now facing a more than $3 billion hole for the current fiscal year. As a result, its top AAA credit rating was stripped away in January.

Walker wants to completely revamp Alaska’s revenue system to solve the structural deficit. In addition to new taxes, he also wants to reduce the annual stipends that residents receive from oil revenue. Instead, Walker would like to funnel more of that revenue into a new state investment fund to support the budget. He’s made little progress on that front, although he did issue a controversial package of vetoes in June that reduced Alaskans’ annual stipends this year to $1,000.

The Takeaway: Walker’s change in tactics reflects an age-old truth in public finance: Sales taxes are far easier to raise than income taxes. The money you see withheld on your paystub is harder to swallow than the charge you may or may not notice on your sales receipt. Following the Great Recession, a number of states turned to the sales tax for help. Many Republican governors have sought to lower the income tax while raising the sales tax to pay for it.

The problem with all this is that the sales tax is regressive, meaning it places a bigger burden on lower-income residents. An analysis released this week by the Institute on Taxation and Economic Policy noted that four out of every five Alaskans would pay less under an income tax than they would under a sales tax -- even if the latter were scaled back to generate $200 million in revenue.

Insecure About Unsecured Credit

Governments need to do a better job of telling potential bondholders where they fall in the line of creditors should the government ever wind up in bankruptcy, says the National Federation of Municipal Analysts.

The group is referring to statutory liens, which give general obligation bondholders preference over other unsecured creditors -- like pensioners -- in the event of a debt restructuring. A handful of states -- including California, Louisiana and Rhode Island -- already have such laws on their books.

The group said that of the states without such a law, only government issuers in Connecticut were upfront about it. "Presented with the choice between owning two bonds at the same price, one with a statutory lien on pledged revenues and one without any lien on those same revenues, investors would reasonably prefer the one with a statutory lien,” according to a white paper. “Yet in today’s market, most investors are not able to make this distinction because they are not given the relevant information.”

The paper is open for comment through Oct. 15.

The Takeaway: The idea of implementing a statutory lien has gotten more attention since Detroit’s bankruptcy, when general obligation bondholders took surprising cuts. But these liens don't provide total immunity to bondholders. A statutory lien doesn’t guarantee the government will always make its payments, nor does it guarantee full repayment in bankruptcy. It just clarifies the creditor’s place in line.

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