Despite ongoing public fear of a national recession, state revenues largely remained constant, according to a new report Tuesday from fiscal analysts.
General Fund revenues for the fiscal year that ends June 30 dropped by about $85 million below budgeted levels, driven by larger-than-anticipated refund claims, while most tax receipts remained strong.
Revenues from the 10-cent fee on plastic bags are coming in dramatically lower than anticipated as many merchants no longer offer such bags.
And while the overall $85 million revenue drop could create the first deficit of Gov. Ned Lamont’s young administration — albeit a tiny shortfall — in reality, finances for this fiscal year remain more than $300 million in the black.
“These are not signs of economic weakness and by knowing and recognizing these revenue trends now, we will be able to proactively manage the budget and state operations,” said Lamont’s budget director, Melissa McCaw. “Our collections for all categories of revenue remain either on budget or ahead of expectations otherwise.”
Still, the new consensus report from Lamont’s budget office and from the legislature’s nonpartisan Office of Fiscal Analysis does open the Democratic governor to some criticism.
Lamont and Democratic lawmakers assumed the budget they adopted in June would run well in the black, in part because of aggressive assumptions about income tax revenues that haven’t materialized.
A national poll released Monday by CNBC found two-thirds of Americans surveyed believe the U.S. economy will enter a recession within the next year.
Connecticut was one of the last states to emerge from the Great Recession in early 2010. It struggled for several years with a recovery that lagged most other states’ and still has not recovered all jobs lost since the last economic downturn.
Still, state tax receipts generally have been on the rise for the past two years, and the new report showed most taxes and other revenue sources holding strong.
Projections for gross income and corporation tax receipts remain unchanged. Sales tax revenues are down 1% this fiscal year, but up 1% for 2020-21.
Legislators and Lamont assumed that the new 10-cent fee on plastic bags would generate about $27.7 million this fiscal year, but Tuesday’s report now estimates the state’s take at $7 million.
That’s because — shortly after the budget’s adoption in early June — major super-market chains like Stop & Shop and Big Y announced they would stop providing plastic bags altogether, leading many state officials to predict fee revenues would come up short.
Administration officials also had warned in recent months that tax refunds could be volatile, largely due to a change in how certain businesses are taxed. The new report found refunds were $120 million larger than anticipated.
In 2018, legislators changed how the state taxes certain small businesses — not to raise more money, but to shield them from new restrictions on federal income tax policy.
But officials said this prompted many businesses, unfamiliar with the new system, to overpay their taxes this past spring, producing a surge in refunds.
Tuesday’s report also implies this is a one-time problem. While it downgraded overall revenue projections by $85 million for this fiscal year, it also predicts $46 million of it would be restored by 202-21.
Small deficit poses big political challenge
Prior to Tuesday’s projected revenue drop of $85 million, Lamont’s budget office was forecasting a $79 million surplus for the current fiscal year.
The new revenue data leaves a potential deficit of about $5.4 million, though a firm number won’t be available until Nov. 20 when the administration issues spending projections in its Fiscal Accountability Act report.
A $6 million shortfall, on paper, would represent 1/36th of 1% of the General Fund — a budgetary rounding error.
More importantly, state finances still are effectively running in the black, an achievement that is largely attributable to the state’s decision for the past two years to save a portion of income tax receipts tied to capital gains and other investment income. Connecticut is still also on pace to add $318 million to its budget reserve after June 30.
Once that savings is considered, a $5.4 million deficit becomes an effective surplus of roughly $313 million.
But this still poses a political problem for Lamont.
For one thing, legislators designed this fiscal year’s budget to run $141 million in the black and generate more than $300 million to add to the budget reserve.
Secondly, Lamont and Democratic legislators balanced the new budget on the assumption that the income tax would generate $90 million more per year than fiscal analysts had projected.
This maneuver, dubbed “wishful budgeting” by critics, was banned a decade ago by legislators when they first mandated periodic “consensus revenue” forecasts from Executive and Legislative branch analysts.
Simply put, if analysts weren’t ready to project revenue growth in writing, elected officials couldn’t gamble and spend it anyway in a new budget.
Lamont and Democratic lawmakers worked around that in June, arguing the consensus report had underestimated income tax receipts.
More importantly, they said, as long as the new budget reflected at least some of the assumptions in the consensus report — sales and corporation tax receipts, for example — that would mean the requirement that the plan be “based upon” the latest consensus schedule.
But with Tuesday’s report showing some revenue erosion, Republican legislative leaders renewed their protests.
“No one should be surprised that the estimated budget surplus of $140 million would be wiped out by a combination of spending increases, falling revenues and policy changes such as increased tax refunds,” House Minority Leader Themis Klarides, R-Derby. “This is just more evidence of how precarious our budgets can be.’’