New budget includes $200 million income tax hit on middle class

A last-minute component of the new two-year state budget deal includes a $100 million-per-year income tax hike on Connecticut’s middle class, according to budget documents released early Monday.

That hike would not come in the form of increased paycheck withholding, but rather by reducing the credit households can claim to offset their local property tax payments from $300 to $200, according to a summary of revenue changes prepared for the legislature’s Finance, Revenue and Bonding Committee. It also would change eligibility rules that further reduce the relief some households would receive.

More importantly, this has the potential to weaken a major Democratic initiative to expand middle class tax relief through increased aid to municipalities. This new tax hike, coupled with the value of a canceled sales tax break on clothing, slightly surpasses the increased aid being sent to cities and towns.

The new proposed reduction in the property tax credit is part of a larger effort to reform municipal aid and the local property tax system.

The new budget will dedicate about one-half of 1 percent of receipts from Connecticut’s sales tax – or about $435 million over two years – to cities and towns to mitigate property taxes.

The property tax relief effort includes several components, including a two-step effort to cap municipal property taxes on motor vehicles at 29.4 mills. According to nonpartisan analysts, this would save local taxpayers in nearly 60 communities more than $80 million per year when fully implemented. The initiative also bolsters payments to communities to offset the revenue they lose because property owned by the state, private colleges and hospitals is exempt from local taxation.

A state tax incidence report released in December confirmed what state officials have long asserted, that the property tax is the most regressive levy in the state. That report found households earning less than $48,000 per year effectively pay nearly one-quarter of their annual income to cover state and local taxes. That also includes families and individuals that rent their housing, and whose rental charges reflect the property taxes their landlord must pay.

But the middle- and lower-income families also are sacrificing on the tax side of the new budget — and more than originally anticipated.

The planned restoration of a sales tax break on clothing costing less than $50, which is worth $280 million to consumers over the next two years, is dropped — a move long anticipated. Similarly, plans to expand an income tax credit for the working poor, and to provide them with an extra $22 million, is delayed for two more years.

Add in the $200 million extra in income taxes that the middle class will pay, and this amounts of more than $500 million in extra revenue coming to the state from middle- and lower-income households.

The middle-class income tax increase boosts the overall new tax revenue in the new budget beyond $1.8 billion over two years, prompting Senate Minority Leader Len Fasano, R-North Haven, to predict middle-income families would join businesses, hospitals and other groups subjected to big tax increases in denouncing the plan.

“The way the Democrats tried to spin it is disingenuous,” Fasano said. “This is not tax relief for the middle class. This is a hit on the middle class. This is a hit on everybody.”

The lowering of the property tax credit was not one of the budget highlights disclosed by Democratic legislative leaders and Gov. Dannel P. Malloy’s office when they announced a tentative budget deal early Sunday morning.

House Majority Leader Joe Aresimowicz, D-Berlin, called the plan “a balanced, responsible budget that protects middle-class taxpayers.”

Gov. Dannel P. Malloy wrote in a joint statement with legislative leaders that the budget “supports our schools, supports the middle class, and supports vital programs for those who need it most.”

The budget does restore a significant portion of the funds Malloy sought to cut from social service programs. Still, the overall package, which spends more than $40 billion over the next two years combined, does reduce overall spending below the level needed to maintain current services by about $600 million in 2015-16 and by abut $800 million in 2016-17.

Arguably one of the most popular state tax credits on the books, the property tax credit was a compromise established in 1996 between Republican Gov. John G. Rowland and the Democrat-controlled legislature. The tax is aimed at the middle class and gradually is phased out at higher income tax levels.

Senate Minority Leader Len Fasano

Rowland had campaigned in 1994 on a pledge to repeal the income tax, but found — after being elected — that he could not reduce spending sufficiently to make the income tax unnecessary. Democrats, particularly in the House of Representatives, had wanted to revise the income tax to make it more progressive, expanding burdens on the rich and easing taxes on middle-income households.

The property tax credit had peaked at a maximum of $500 in 2005.

It was lowered to its current level of $300 in 2011, one component in an omnibus, $1.8 billion annual tax hike ordered by Gov. Dannel P. Malloy and the General Assembly to close a record-setting state budget deficit.

GE, business lobby step up pressure

The business community also stepped up its pressure Monday on the legislature and Malloy to cut the size of the tax increases. General Electric, which is based in Fairfield, issued a statement implying it may seek a new home:

“Retroactively raising taxes again on Connecticut’s residents, businesses and services makes businesses, including our own, and citizens seriously consider whether it makes any sense to continue to be located in this state.”

The Connecticut Business and Industry Association was equally critical: “Big increases in state spending combined with major tax increases on employers will undermine family income by making the state much less attractive for job growth.”

Other major revenue components in the new budget deal include:

• A new top marginal rate on the income tax, which would collect almost $290 million extra over the biennium from single taxpayers earning in excess of $500,000 per year or married couples earning in excess of $1 million.
• Roughly $500 million more from corporations through new restrictions on credits and other rule changes to the corporation tax.
• More than $400 million added to the hospital provider tax.
• More than $450 million in extra sales tax revenues. This would come both by canceling the planned restoration of a clothing and footwear exemption, and by boosting the special sales tax rate on data processing services from 1 to 3 percent.
• And the launching of keno games in Connecticut bars and restaurants, which is expected to yield about $44 million in new revenues over the coming two fiscal years.

A draft document prepared for the Finance, Revenue and Bonding indicates that the plan also includes a new 6 percent tax on outpatient surgical centers that is projected to bring the state $35 million over two years.

The plan also eliminates a legislative recommendation to give hospitals $56 million in the second year of the budget to help offset the tax the industry pays to the state, according to the draft document.