Gov. Dannel P. Malloy proposed a major increase in state taxes on hospitals to leverage federal dollars, along with a modest sales tax hike, in a compromise intended to end a budget impasse that’s in its third month and has left Connecticut as one of the last two states without a budget.
“It has inflicted more harm than should be tolerated by any of us in positions of leadership, Democrat or Republican,” Malloy said of the impasse Friday in outlining his plan. “The time for compromise is now and the proposal I put forward today represents just that.”
Revenue from these tax changes, a new sales tax surcharge on restaurant transactions and a series of smaller spending cuts, would enable Malloy to greatly scale back what has been a major point of difference with legislators: A plan to cut municipal aid and shift big teacher pension costs onto cities and towns.
But the governor still is insisting that the next two-year state budget redistribute education aid to help poor communities.
Malloy’s proposal comes as House Democratic leaders are planning a budget vote next week, warning the failure to adopt a spending plan by month’s end would lead to draconian cuts in state aid to municipalities on Oct. 1.
Legislative leaders are expected to negotiate with Malloy’s staff behind closed doors throughout the weekend in an effort to reach a deal by early next week.
“I really put a marker down here,” Malloy said. “This is a budget I can sign.”
His plan imposes a $6 increase on motor vehicle fees to provide a dedicated revenue source for state parks. But it also eliminates all parking fees at state parks and beaches.
It also provides $10 million in state bonding each year to expand testing of homes in eastern Connecticut plagued by crumbling foundations.
He would raise the sales tax from 6.35 percent to 6.5 percent.
Malloy adopted a House Democratic proposal to cancel a third consecutive income tax cut in three years for retired school teachers.
“We cannot continue down a path of operating the state without an adopted budget – we must meet one another in the middle,” Malloy said. “We are one of only two states without a budget. Our taxpayers, our students, our businesses deserve better.”
Connecticut has gone 10 weeks into the new fiscal year without a new state budget, and the Democratic governor said the time has come to end the gridlock that threatens vital services and all communities. Absent a new state budget, Malloy would be required to cut state grant payments owed to cities and towns around Oct. 1 by hundreds of millions of dollars.
Analysts say state finances, unless adjusted, would run $1.6 billion in deficit this fiscal year, an 8 percent gap, because of a combination of surging debt costs and declining income tax receipts.
“The standoff surrounding Connecticut’s state budget … has gone on long enough,” the governor said, adding that the gridlock “will cost us tens of millions of dollars in our current year budget, and we would continue to lose tens of millions of more dollars every month.”
Still not ‘leading with revenue’
The governor, who has urged legislators not to “lead with revenue” as they try to close major projected deficits in state finances, had balked at House Democratic proposals to raise the state sales tax from 6.35 percent to either 6.99 or 6.85 percent.
The caucus also had recommended small surcharges on hotel and restaurant transactions, along with an overall sales tax hike, to mitigate major reductions in municipal aid.
Malloy already has proposed a modest income tax increase — not by raising rates, but by reducing or eliminating tax credits for middle-income households and for the working poor.
He also recommended a 45-cent-per-pack increase in the cigarette tax and comparable bumps in other tobacco levies.
Those proposals remain in his latest budget.
But Friday he agreed to support raising the sales tax this fall from 6.35 percent to 6.5 percent. There would be a 0.65 percentage point surcharge on restaurant transactions, raising the overall sales tax rate in this area alone to 7 percent.
Malloy also expanded his proposal to raise the real estate conveyance tax. The governor had sought to boost the rate from 1.25 percent to 2 percent, and only on properties valued at more than $800,000. But his new plan raises the base rate on all properties from 0.75 percent to 1, and on more expensive properties from 1.25 percent to 2.
The governor’s latest budget also would expand the state’s bottle deposit program to cover juices, teas and sports drinks. This would raise an estimated $2.8 million this fiscal year and $7.4 million in 2018-19, since deposits unclaimed by consumers are transferred to the state.
Using hospital tax to get more federal dollars
Malloy originally proposed enabling cities and towns to levy taxes on the real property of nonprofit hospitals, which currently are exempt from local taxation.
This would have allowed communities to raise about $212 million per year.
His latest budget scraps that approach and instead raises the existing state provider tax on hospitals — which has been a source of friction between the governor and the industry.
The governor’s new plan asks hospitals to pay $274 million in new tax revenue next fiscal year and $299 million more in 2018-19. They would get that back and then some, though, as the state would use those payments to qualify for more federal Medicaid reimbursement.
By redirecting those federal dollars back to the hospitals, coupled with other additional funds that the state would send, hospitals would experience a net gain of about $50 million per year, said Office of Policy and Management Secretary Ben Barnes, Malloy’s budget chief.
Still, it could draw strong objections from the industry based on Connecticut’s recent history with the hospital provider tax.
When the provider tax first was imposed on hospitals in 2011, it was only a legal maneuver to qualify Connecticut for additional federal assistance through Medicaid. The state collected $350 million in taxes on the industry, but returned $400 million in supplemental payments.
This back-and-forth arrangement allowed the state to claim these supplemental payments as a Medicaid expense and receive funds from Washington equal to half to two-thirds of the funds Connecticut returned to the hospitals.
Over the past six years, though, the tax has grown and the supplemental payments have shrunk — despite an increase in the federal reimbursement rate. Hospitals will pay $556 million in total this fiscal year and receive $117 million back as Connecticut misses out on hundreds of millions of dollars in potential federal reimbursement.
The governor said Friday that while hospitals may object to the many changes in state taxation since 2011, the state’s economy has changed significantly over the same period.
“That’s not a Connecticut issue, that’s a national issue,” he said.
“We’ve been here before, and unfortunately are here again, said Jennifer Jackson, CEO of the Connecticut Hospital Association. “Governor Malloy’s revised proposal would hike the hospital tax, increasing healthcare costs, threatening the quality of care on which we rely, and dramatically harming our ability to serve the community. Connecticut hospitals strongly oppose it.”
Retired teachers would lose third income tax cut
Another tax proposal from the governor defers the final stage of a previously approved three-tiered income tax cut for retired teachers.
Ten percent of teachers’ pensions were exempted from the state income tax beginning with tax returns filed in 2016. The exemption rose to 25 percent last spring and was scheduled to reach 50 percent next spring.
Deferring the final tax break would save the state an estimated $8 million per year.
According to the legislature’s nonpartisan Office of Fiscal Analysis, the average pension awarded to a retiring Connecticut teacher last year — not counting those who took early retirement — was $59,700.
Plan draws mixed reviews
The governor’s plan drew mixed reactions from legislative leaders and other groups impacted by the proposal.
“It is encouraging to see the governor moving in a direction that I believe brings us an important step closer to adopting a state budget,” said House Speaker Joe Aresimowicz, D-Berlin. “With a pending disastrous scenario for our schools looming October 1, it is critical that we continue to work with the governor as well as Republicans to reach an agreement on a final budget within the next week that can become law, and helps fulfill our caucus priority of funding public education.”
Senate President Pro Tem Martin M. Looney, D-New Haven said Senate Democrats were scheduled to review the governor’s proposal in caucus on Friday afternoon. “Compromise on all sides is required in order to reach an agreement on a biennial budget,” he said.
Senate Majority Leader Bob Duff, D-Norwalk was noncommittal about the governor’s proposal after a closed-door caucus of Senate Democrats, but said leaders still anticipate voting on a compromise budget on Thursday.
“We’re looking at it,” he said. “He put it out there this morning. We just finished our caucus. It’s 94 pages and we still have to go through it.”
Duff declined to speculate on whether the sales tax increase Malloy proposed would be more acceptable to three moderate Senate Democrats who’ve said they oppose boosting the sales tax.
Republican leaders in the House and Senate made it clear Friday they would oppose the governor’s plan because of the tax hikes involved.
“I see no structural budgetary changes of consequence in the governor’s plan that would check some of the fastest rising costs of state government going forward,” Senate Republican leader Len Fasano of North Haven said. “Speaking for all Republicans, I can say that this does not drive us closer to a bipartisan budget deal.”
“Once again the governor resorts to tax hikes to solve the deficit that was created by tax increases that stymied economic growth,” said House Minority Leader Themis Klarides of Derby. “This is no compromise. This is a slightly different version of what Democrats have been talking about for months.”
The Connecticut Council of Small Towns, which represents more than 100 communities, said Malloy’s plan comes with good and bad.
COST Executive Director Betsy Gara praised Malloy for continuing to push for mandate relief for municipalities, particularly changes to prevailing wage thresholds involving publicly financed construction projects and revisions to binding arbitration rules.
But Gara added that “although we appreciate that the governor has reduced the size of the cuts in municipal aid, we are still concerned that the cuts under consideration and the shift in teachers’ pension costs will add to the property tax burden in our small towns,” Gara said.
Joe DeLong, executive director of the Connecticut Conference of Municipalities, said, “CCM appreciates the governor’s recognition that significant cuts in state aid to municipalities inevitably lead to higher property taxes and his latest proposal works towards our common goal of creating stability within our local budgets and operations. This will go a long way toward protecting property taxpayers in these difficult times.”
But, DeLong added, while Malloy’s proposal reduces towns’ share of teacher pension costs, “it does not address the structural problems inherent in the TRS (Teachers Retirement System) and is not accompanied with seats at the table for local leaders to manage this pension fund. Our organization simply cannot support shifting costs onto local communities to support an unsustainable system, without first making necessary reforms to that system.”
Gian-Carl Casa, president of the CT Community Nonprofit Alliance, the state’s largest coalition of nonprofit social service agencies, noted that Malloy’s plan would be a huge step up for these agencies from the status quo.
Nonprofits have faced significant cuts over the past 10 weeks as the state has operated without an approved budget.
“The governor’s new budget proposal is a welcome step forward in the process and would improve funding for many social services over current funding in the executive order,” Casa said. “Thousands of people across Connecticut who rely on community services that have been reduced or closed during this budget stalemate and have come to the Capitol in recent weeks, need a budget resolution.”
Connecticut’s restaurateurs also were displeased. “Restaurant patrons use discretionary dollars to go out to eat. Any action government takes that effectively raises prices hurts small business owners and consumers,” the Connecticut Restaurant Association wrote in a statement.
Scaling back teacher pension bills
Malloy’s latest plan significantly reduces the share of teacher pension fund contributions cities and towns would take on, and also reduces the potential for those payments to grow in future years.
The $1 billion contribution the state made to the pension fund last year is slated — according to a study prepared for the state in 2014 by the Center for Retirement Research at Boston College — to skyrocket over the next 15 years, potentially topping $6.2 billion by 2032.
Malloy originally proposed that communities cover one-third of that cost, which would have amounted to $408 million this fiscal year and $421 million in 2018-19.
He later revised his proposal to cap the municipal contribution at $400 million per year.
But his latest plan only requires communities to cover the “normal cost,” an actuarial term referring to the full amount that must be set aside annually to cover the future pensions of present-day teachers. And municipalities would not even face all of that until the second year of the new biennium.
Their new contributions would total $92 million in the first year and $190 million in the second, under the governor’s latest plan.
One of the chief objections municipal leaders raised to the governor’s proposal is that teacher pension costs are too volatile, and that this volatility largely stems from decades of irresponsible savings decisions by the state.
But the “normal cost” also is a relatively stable component of the teacher pension contribution and is projected to grow very modestly over the next 15 years.
Restoring some local aid
The governor also revised his plans to cut municipal grants, scaling those cuts back significantly.
The latest budget includes $137 million more in non-education aid for the current fiscal year — and $89 million more for 2018-19 — than he included in his last proposal, issued on May 15.
Overall municipal aid proposed by the governor still would decline by about $53 million in the first year and by $21 million in the second when compared with the fiscal year that ended June 30.
And those totals don’t include the $90 million in pension contributions municipalities would have to assume in the first year and the $190 million they would have to assume in the second.
Malloy originally had proposed cuts in statutory formula grants totaling $263 million in the first year and $289 million in the second back in February.
About 90 percent of those cuts would come from non-education grants, but that doesn’t mean many communities wouldn’t see a significant reduction in education aid as well.
That’s because Malloy also had proposed dramatically redistributing education aid, shifting it from wealthy and middle-income communities into the lowest-performing school districts, which are in some of the state’s poorest cities and towns.
A Hartford Superior Court judge ruled last September that Connecticut’s distribution of education funding is irrational and unconstitutional, failing to meet the needs of students from its most impoverished districts. The ruling is on appeal to the state Supreme Court.
But his latest proposal only redirects education grants from wealthier communities to poorer ones in a modest fashion. Only about $11 million would be redirected this fiscal year in the $2 billion Education Cost Sharing grant program.
The governor’s latest proposal also merges several non-education grants into one system.
Five grants, including some that share sales tax or casino proceeds with cities and towns, or otherwise provide general assistance, would be merged into a new “municipal assistance grant.”
But the unified grant would provide $324 million in aid this fiscal year and $327 million in 2018-19, about 20 percent less than the $412 million those five grants provided last fiscal year.
Capitol Bureau Chief Mark Pazniokas contributed to this story.