Gov. Ned Lamont and his fellow Democrats in the legislature’s majority already agree on their top priorities for the state budget.

They’re focused on extra municipal aid, especially for education, along with another big investment in affordable child care and keeping Connecticut’s hospitals fiscally afloat — even though achieving these goals likely means scrapping Lamont’s proposed $200-per-person tax rebate.

Legislators and the governor are trying finish their work before the General Assembly adjourns on May 6. But while some might see the framework for budget deal almost in place, deeper questions still must be resolved before any votes happen.

Will Connecticut still have enough revenue to handle not only impending cuts in federal assistance but also the next recession? And how much will these new investments slow the aggressive pace at which state government has been paying down its pension debt since 2020?

“I want to make sure I keep my commitment to my towns and cities, because they’re having a hard time with education, and make sure it’s within the confines of an honestly balanced budget,” Lamont said last week.

Finding money for towns despite revenue, cap challenges

Despite a multiyear effort to bolster aid for local schools, legislators from both parties this year say rising health care and energy costs are straining districts already pushed to the limit because temporary federal pandemic relief they enjoyed between 2021 and this year is now exhausted.

Sources close to the budget process say legislators have asked Lamont to agree to send to towns roughly $170 million in extra education grants in the next fiscal year and another $100 million in non-education aid.

But there’s no room for any of that spending next year under the spending cap that keeps budget growth in line with household income.

Legislators can legally exceed the cap if Lamont declares a fiscal emergency and if 60% of the House and Senate each agree.

But even if the cap is resolved, there’s a second challenge. Connecticut doesn’t have any money available to pay for it, unless it changes more fiscal rules.

Most tax revenues assigned to the state budget aren’t projected to grow much next year. And any expansion is being wiped out by another problem.

Connecticut links its state corporate tax system to the federal code, as do several other states. And since Congress and President Donald Trump last July extended federal corporate tax breaks that had been set to expire, Connecticut’s taxes on big business have come in about $350 million below projections.

Still, there’s another big pot of money that’s growing just outside of the state budget.

A special savings program that bars lawmakers from spending all state income and business taxes captured $1.8 billion this fiscal year. And nonpartisan analysts said Friday that likely will exceed $1.9 billion before this budget cycle ends June 30.

This savings program, which Connecticut has used to reduce pension debt and build reserves, has captured an average of more than $1.5 billion since its inception in 2017. That’s a huge total that exceeds more than 8% of the General Fund. In the two decades prior to this program, state government never had a surplus greater than 3.3% of the fund.

Many Democratic legislators say Connecticut — which failed to save properly for pensions for seven decades prior to 2011 — has over-corrected and is now siphoning too much money away from public services to reduce unfunded pension obligations.

Lamont has been a staunch advocate of the program, and according to his budget office, Connecticut entered this fiscal year still owing more than $33 billion, which is one of the largest pension debt burdens, per capita, in the nation.

But legislative leaders know the governor faces pressure from Rep. Josh Elliott, a progressive from Hamden challenging him for the Democratic gubernatorial nomination.

Connecticut cannot ask one generation of taxpayers to solve a pension debt problem created by three, says Elliott, who favors a moderate approach to paying down pension debt that would allow the state to preserve education, health and child care and other core programs.

“You have to be more flexible with the [budget] caps,” Elliott said. “We’re paying down our pensions at break-neck speed on the backs of our working families.”

Lamont is being asked to compromise as never before

The governor was willing to weaken the savings program this year and remove $500 million from it to finance a $200-per-person tax rebate in late October, days before he would ask voters to reelect him to a third term.

Sources said this weekend that Democratic legislative leaders want Lamont to drop the rebate and instead take at least $570 million from the savings program for three purposes:

• $170 million would go to school districts next fiscal year, and each year after that, for ongoing operating assistance.

• $100 million would go to towns in the next budget cycle for one-time help with non-education programs.

• And $300 million would be invested in a state endowment created last June to promote affordable child care. Officials had hoped to increase the endowment this year with budget surplus money. But the current budget is barely in balance due to declining corporation tax receipts and cost overruns in Medicaid and health care benefits for retired state employees.

Legislators from both parties have been lukewarm about an election-year rebate. And House Speaker Matt Ritter, D-Hartford, has tried to keep his caucus focused on building the municipal aid and child care initiatives it has underway, saying they also make Connecticut more affordable for working class households.

“When you don’t give municipalities the support they need, when you don’t get school systems the support they need, their only way to raise revenue is to raise the property tax,” Ritter said when Democratic leaders pledged to help schools earlier this legislative session.

To accomplish these goals, though, would require Lamont to compromise on his fiscal principles.

Transferring funds away from the savings program and into the child care endowment wouldn’t be the biggest challenge, since both exist outside of the formal budget and the spending cap, and Lamont also has pushed hard to bolster early childhood education.

The governor might be willing to temporarily weaken the savings program and approve a one-time spending cap exception to award $100 million in non-education aid. He approved a similar one-time cap exception last fall to create a special $500 million fund to protect human services programs threatened by federal budget cuts.

But Lamont has never waived cap rules for extra spending that would happen year after year, which is what lawmakers want him to do now with the proposed education aid.

The governor would prefer legislators find a way to pay for the extra $170 million and stay under the cap by cutting spending elsewhere.

But neither side has disclosed any potential cuts to make that scenario possible. And legislators say school districts need the extra assistance for more than just one year, given the fiscal pressures they face.

Hospital tax also remains unsettled

The spending cap challenge also comes into play as lawmakers and the governor try to craft a new taxing arrangement with Connecticut’s hospitals.

Each year, Connecticut collects hundreds of millions of tax dollars from the industry and then returns those funds as part of a complex arrangement to qualify for extra federal Medicaid funding. Most states employ this back-and-forth arrangement that Washington long has encouraged.

Lamont now wants to reduce the new tax hike from $375 million to $100 million while preserving the plan passed last year to boost payments to hospitals by $140 million annually, netting the hospitals a collective $40 million a year. 

But the Connecticut Hospital Association says the governor’s proposal doesn’t do enough for hospitals, given how little the state pays providers to treat patients with Medicaid coverage. 

House Republicans suggested earlier this month that Connecticut could provide even more to hospitals by shifting the payments it makes to the industry outside of the budget and spending cap system.

Sources say Democratic legislative leaders also endorse this idea, but the Lamont administration still is weighing that option.

The governor has good reason for keeping lawmakers from spending beyond cap limits.

Except for a sharp economic downturn following the arrival of COVID in early 2020, the nation hasn’t faced a more traditional recession since 2009.

And an administration analysis shows even a “moderate” recession could drain Connecticut’s $4.3 billion rainy day fund in less than four years, even if the savings program to pay down pension debt is repurposed to prop up the state budget.