Next N.J. governor will confront bleak fiscal future

Governors Race Bridgegate
The candidates for governor, Democrat Phil Murphy and Republican Lt. Gov. Kim Guadagno, during a debate at the New Jersey Performing Arts Center in Newark on Oct. 10.

The fiscal future of New Jersey is bleak. The state has struggled to balance its budget for two decades. In the early 1990s it was rated AAA by each rating agency, but over the last eight years that rating has been reduced seven times — it is now the second lowest.

Some organizations have argued for large tax increases, while the business community has argued for tax cuts — even though taxes were reduced in 2016 with a negative budget impact of $1.3 billion.

The state needs more revenues, but the decision on how to tweak the tax code needs careful deliberation. Let’s summarize the situation.

Spending issues. Two programs represent 60 percent of spending — K-12 education and Medicaid — and are arguably difficult to reduce given the nature of the recipients.

The largest albatross is retirement costs for state employees and teachers (the state pays the school districts’ share). The current underfunding is $2.5 billion, with a net liability of $115 billion. The teachers’ pension fund will be depleted in 2029, and the judges’ by 2022. Other pension funds are in similar condition. In addition, retirement health benefits face an unfunded liability of $69 billion. This combined liability of $184 billion — $115 billion plus $69 billionis five times the state’s bonded debt of $35 billion.

Other inevitable increases in transportation, public safety, debt payments, and institutional care suggest that budgetary growth is inevitable. And with the workforce already reduced by 15,000, more personnel reductions are not a solution.

Our infrastructure is rated D-plus, with an investment need of more than $135 billion.

Those who argue for significant cost reductions are not realistic — although reviews are always warranted.

Tax and revenue issues. Seventy percent of state revenue comes from the income and sales taxes — 7 percent from the corporate tax.

Last year’s revenue growth was 1.9 percent. Revenue growth will be less in subsequent years due to the $1.3 billion tax reductions. Tax deductions for corporations have reduced revenue by $1 billion, making corporate tax collections 30 percent less today than 10 years ago. Numerous one-time gimmicks have been used for revenue — they cannot be repeated or should be discontinued — and the existing tax structures will not produce sufficient growth to cover projected needs.

Revenue options. Some suggest a “millionaire’s tax” for $600 million. This is an option but not sufficient — and a risk. The “rich” are mobile and could leave permanently or enough days to have no tax liability.

Other options: Restore some of the tax reductions made last year ($1.3 billion); increase the sales tax (one cent generates $1.3 billion annually); or eliminate some of the $28 billion “tax expenditures” (credits and deductions) in the tax codes. For example, taxing food (many states do) would generate $1.5 billion a year.

Reducing the property tax by increasing the income tax or capping it based on income are not feasible. Current revenue will not allow it. And 43 percent of state revenue already goes to local units for tax relief.

The property tax is unpopular, but it is dependable and, unlike the income tax, is not volatile. Moreover, local costs are driven by local decision-makers. The cap on property taxes and on arbitration must be maintained — they have lowered growth — from prior increases of 6.8 percent to only 2.1 percent in recent years. A range of policy changes — size of government, benefits, personnel costs, class sizes, payouts for unused sick and vacation time — could reduce property taxes. These  issues need discussion.

The idea that tax cuts spur growth and increase revenue is questionable. Several states like Kansas cut taxes and found the reverse — they increased taxes when faced with decreased revenues.

Final observations. Basic state services plus the need to address the underfunding of retirement systems, school aid, and infrastructure require tax increases and changes to retirement systems — and maybe constitutional or legislative changes.

The new governor will need to address the budget problem immediately. A bipartisan “tax policy commission” representing all segments of our community must be appointed to study both spending and the tax system, which hasn’t been reviewed in 30 years. Since 73 percent of total spending is at the local level — especially school districts — the expenses and organization of local governments must be considered.

Simply put, the state needs more revenue — the question is how much and from where. A responsible commission can recommend a specific set of tax proposals acceptable to the legislature and the governor – and properly explain their recommendations to the public.

Richard F. Keevey is the former New Jersey budget director and comptroller. He is a senior policy fellow at the Bloustein School of Planning and Policy at Rutgers University and a visiting professor at the Woodrow Wilson School, Princeton University. rkeevey@princeton.edu