Small Budget Surplus Provides Little Reason to Celebrate

Kentucky ended fiscal year 2013 with a $70.6 million surplus in the General Fund – about $30.6 million from lower-than-expected spending in a few areas and $40 million from revenue growth that slightly exceeded expectations. It’s a bit of good news, but put into context, not nearly good enough.

Growth is Weak and Inadequate

The reported surplus itself is very small, amounting to only 0.7 percent of Kentucky’s General Fund budget. But $45 million of it is not really a surplus at all, as it’s needed to pay for expenses that were incurred during the year but not budgeted for, including the cost of a higher-than-expected prison population and the cost of cleaning up natural disasters. That leaves an actual surplus of only $25.6 million. By law that will go to the state’s rainy day fund, which provides a crucial safety net in hard economic times. But that will bring the rainy day fund up to only one percent of the budget, while experts recommend a fund of 15 percent or greater to properly prepare states for recessions.

While revenues slightly beat the forecast, it was a forecast that expected revenue growth to be slow. Tax receipts increased just 2.3 percent for the year with total General Fund revenues growing 2.8 percent. Revenues remain below where they were in 2007 in inflation-adjusted dollars. The story would’ve been worse if it wasn’t for the temporary tax amnesty program that the state carried out this year, which generated $58.6 million according to the Department of Revenue¹. That money won’t be recurring next year.

Continued high unemployment and weak consumer demand resulted in a decline in sales and use tax receipts by one percent, or $30.4 million. More than 80 percent of the state’s revenue growth was from the individual income tax. Corporate income tax receipts also grew by 7 percent, or $26.4 million.

The small surplus does nothing to roll back the seven consecutive years of budget cuts still locked in place. Totaling $1.6 billion, these cuts have reduced services at public schools, led to continued tuition increases at universities and community colleges, and cut many programs in health, human services and other areas by 15 to 40 percent.

Outlook is Troubling

Budget prospects are not good moving forward. The year-end revenue results confirm substantial problems with Kentucky’s tax system. In addition to weak consumer demand, the decline in sales tax revenue can be attributed in part to a narrow base that includes too few services. The state is also over-reliant for ongoing revenue on sources that are stagnant or even in decline, such as the coal severance tax—which declined 23 percent due to a drop in demand for eastern Kentucky coal—and the cigarette tax—which fell 6 percent.

Federal budget cuts will also exacerbate the state’s budget woes. In presentations to the Joint Interim Appropriations and Revenue Committee recently, the Department of Education and the Cabinet for Health and Family Services outlined how their own budgets – already pushed to the limit by state cuts– will be affected by sequestration. Title 1 funds, which provide interventions for at-risk students in schools with a certain percentage of children from low-income families, will be cut by $10.5 million in the coming school year. Special education will be cut by $8.1 million². The Cabinet for Health and Family Services will suffer a total loss of $8.3 million in 2013, and between $17.7 and $18.4 million in 2014. Because the Taxpayer Relief Act of 2012 delayed and reduced the sequester’s effect in 2013, 2014 will be even more austere for affected programs³.

A still-weak economy is an additional challenge. Sequestration and other federal budget cuts harm an already-slow recovery. Monthly job growth in Kentucky remains modest, putting off full recovery until the end of the decade at current rates of employment growth. What job growth is happening tends to be in low-paying jobs, and wage growth overall is weak. Those trends impede Kentucky’s revenues and mean ongoing high demand for programs like Medicaid. Currently, the state expects revenues to increase only 1.1 percent over the first three quarters of the new fiscal year.

A conversation about raising more revenue in a way that is fair—starting with consideration of the recommendations of the governor’s blue ribbon commission on tax reform—must happen in order for Kentucky to advance.