Decoding the Democrats’ Sweep

What’s in store for Illinois tax policy after Democrats sweep November’s election?

I’m writing this column on Nov. 7, the day after Democrats swept Illinois’ election. By time you read this, the state’s newly elected governor, Chicago Democrat J.B. Pritzker, and a host of Democrat legislators will, hopefully, be deep in preparation for their debut in Springfield. Let’s decode what a Democrat-controlled Illinois General Assembly might mean for Illinois tax policy.

With an unpaid bill backlog of nearly $7.5 billion and an underfunded pension system, our new state leaders will immediately face a set of significant fiscal challenges for the current fiscal year and the years ahead.

While Pritzker never released a comprehensive tax plan during the campaign, piecing together what he has said about taxes over the course of his campaign could be telling in how he intends to approach his budgetary inheritance.

Unlike in prior years, the General Assembly and soon-to-be former Gov. Rauner passed a budget for fiscal year 2019. However, whether the budget was truly balanced has been an issue of debate. According to some reports, the budget as passed had a structural deficit of approximately $1.2 billion, and the state’s budget picture has not improved since July 1.

In fact, the state has been ordered by courts to pay approximately $400 million in back pay to state employees in response to a lawsuit filed against Rauner over his failure to pay “step raises” (longevity raises) to union employees after expiration of the collective bargaining agreement with the state’s largest employee union. No money was appropriated for these raises in the current state budget. Worse even, the budget was “balanced” by underfunding the cost of employee and retiree healthcare.

Recently, the Teachers’ Retirement System announced that the required payment to the pension system will increase for fiscal year 2020 by about $400 million because of changes to investment return calculations made by their actuaries.

Additionally, the education funding reform legislation enacted into law a couple of years ago envisions the state increasing funding for local schools by a few hundred million dollars each year.

Added to all this, Pritzker will also face pressures to make good on his campaign promises for additional funding for existing and new state programs when crafting his first budget.

There are two obvious ways to address what appears to be a growing structural deficit and pay for new and expanded programs — cut expenses or raise additional revenue (taxes).

Pritzker’s campaign promises included repealing the Invest in Kids tax credit/scholarship program. He’ll need support from the General Assembly do so, and even then, the repeal would save only about $75 million per year — a significant amount of money in absolute terms but a small amount in the context of a $36 billion state general funds budget. And while the state’s pension debt is a huge portion of state spending, the Supreme Court has made clear that the state has few, if any, options available for cutting benefits to current employees and retirees as a method of reducing existing pension obligations.

So, with limited options for cutting expenses, both for political and legal reasons, well… we know what that means — the more likely route for Pritzker is to increase existing taxes and reduce or eliminate existing tax exemptions, credits, and deductions.

Raising Revenues?

Raising tax rates is a difficult vote politically for most members of the General Assembly, and it appears that Pritzker has ruled out an immediate tax increase. Further, the issue with reducing or eliminating existing tax exemptions, credits, and deductions is that they don’t account for nearly enough revenue to even come close to balancing the existing structural deficit unless exemptions, credits, and deductions provided to individuals are reduced. Given Pritzker’s campaign statements, that appears highly unlikely.

Pritzker strongly favors amending the Illinois Constitution to authorize a graduated income tax. The challenge here is the earliest that can happen is calendar year 2020, and even then, the graduated tax wouldn’t be effective until calendar year 2021. Of course, that’s assuming the General Assembly can pass a proposed amendment by a three-fifths majority at least six months before the November 2020 election at which the proposed amendment would be presented to Illinois voters. For the proposed amendment to be enacted, it must be approved by 60 percent of those voting on the amendment or the majority of voters in the election.

Pritzker has proposed a “graduated-like” tax in the interim. As I understand this idea, the flat tax rate would be increased in combination with increases in deductions and credits provided to individuals who are not “rich.” This implies the increased rate would only result in higher taxes on the rich. However, Pritzker has backed off this idea in interviews since winning the election.

Legalizing and taxing recreational marijuana is another potential source of new state tax revenue — proponents suggest hundreds of millions of dollars could be raised. However, legalization would take time to pass and implement. For example, if legalization is passed by the end of the 2019 spring session (May), time would be needed to place the required regulatory and tax infrastructure in place, license vendors, and more. So, we’re more realistically looking at legalization in January 2020 and a realized revenue impact in the following year.

Pritzker is also on record as favoring gambling expansion, including legalized sports betting, as a means of generating additional state tax revenue. Previous gambling expansion proposals have included expanding the number of casinos, including a Chicago casino, as well as allowing various sorts of gaming at horse racing tracks. These proposals have met opposition from not only those opposed to gambling but also existing casino owners who fear cannibalization of their customer base, fights over who would own a Chicago casino, and how the proceeds from a Chicago casino would be distributed. Plenty of unanswered questions surround sports betting as well. In other words, expanded gambling won’t be a quick source of additional state revenues either. As with legalization of recreational marijuana, I suspect the state wouldn’t see increased revenues from gambling expansion before January 2020.

What this boils down to is 2019 will be another challenging budget year — any solution is painful to someone.