The Senate Finance Committee’s post-election Retreat in Roanoke had some eye-popping figures. For a change, the news was good.
First, the Commonwealth is holding a $2.3 billion surplus from FY 2021, which ended on June 30, 2021. That equals 10% of the state’s discretionary budget, which already includes healthy deposits into the state’s reserve fund. Moreover, the Commonwealth is looking at a $3.3 billion surplus for FY 2022, based on the economic data. That means that the state government, as of June 30, 2022, will be looking at $5.6 billion in unallocated cash. And it doesn’t end there.
Going forward, if Virginia holds all programs at current spending levels in the next biennium (FY23-FY24), then we’re looking at a projected surplus of eight ($8.0) billion dollars against a baseline budget of forty-eight ($48.0) billion dollars. In other words, we will be collecting 16% more dollars then we will be spending – in addition to all the additional Federal money (still unallocated) through the ARPA legislation passed in March 2021 and the Infrastructure legislation recently signed into law in November. We literally cannot spend the money fast enough.
Under the State Constitution, half of surplus funds are ordinarily allocated to the “Rainy Day Fund” which protects provides a reserve for economic downturns, when the state (unlike the Feds) cannot rely on deficit spending. However, that fund itself is capped at 10% of the state budget and with $3.8 billion currently in the Fund, we are rapidly approaching the cap. In other words, this is mostly ready cash.
All this must be bewildering to those following the national news: isn’t our U.S. economy stagnant? What about the supply chain crisis? How about unemployment?
The short answer is that our economy in Virginia is still (barely) below pre-COVID levels from early 2020. However, there are two systemic factors driving the surplus: first, the failure of Virginia’s tax system to conform to the Federal tax changes starting in 2018, and, second, the historic drop-off in state services starting with the COVID19 shutdown in March 2020.
The first has led to an unprecedented growth in revenue, while the latter factor has limited and even reduced state spending over the past two years.
In 2018, the U.S. Congress passed legislation, presumptuously titled the “Tax Cuts and Jobs Creation Act” or “TCCJA,” which reshaped the Federal tax system. Numerous tax deductions or exemptions, such as home mortgage interest, were eliminated or sharply curtailed. Others like minimum standard deduction were increased. The net effect was that the “aggregate gross income” reported by most Americans making over $50,000 per year was increased. On the flip side, the legislation reduced Federal tax rates, especially in the upper brackets, so that overall Federal income taxes fell for most Americans.
In Virginia, the overwhelming number of tax filers use the “AGI” from their Federal return as the income figure on their Virginia return. Due to the TCJA changes, that reported gross income is now higher than before for most Virginians, even if actual income is the same.
The Assembly could have balanced this out by reducing rates. Instead, in 2019, the Republican majority authorized a one-time “cash back” for all income tax filers. Then in 2020, the new Democratic majority discontinued the automatic cash refunds. So the imbalance remained.
The end result is that a large part, at least half, of Virginia’s surplus is being driven by the simple fact that the Commonwealth taxes a larger part of income then it did before 2018. Period.
The second systemic cause of the surplus traces back to the Governor’s decision in March 2020 to shut down schools. For a year, most schoolchildren in Virginia did not have access to in-person public education, one of the great policy errors in modern history. Thousands of families removed their children from the public school system.
By the end of the 2020-2021 school year, Virginia had 50,000 fewer students in its public school system. At a state obligation of $6,000 per child, that is an annual savings of $300 million, which doesn’t include the ordinary increases in students from population growth (in fact, Virginia had been adding students ever year since the 1970’s). To date, those children have not returned, which means that the Commonwealth has a commensurately lower education cost.
The drop in education cost was mirrored by a drop in costs relating to Medicaid, which at $6 billion a year is Virginia’s second-highest budget driver (next to K-12). This might seem counter-intuitive since COVID19 struck particularly hard amongst Medicaid-eligible populations, such as seniors. However, the bottom line is that Medicaid clients on a “fee for service” model were far less likely to visit their providers during 2020-2021. As a result, Medicaid had a net savings of $653 million in FY21.
That trend appears to be carrying forward in 2021. For the first time since the program began, Medicaid costs seem to be stable and even decreasing – because people are seeking less care. Again, this is not because they are less vulnerable but rather because of the new barriers to visiting doctors.
The bottom line is that the state surplus is not about “good stewardship.” It’s about collecting more in taxes while providing fewer state services. That model is not sustainable. And it will change.
Senator Chap Petersen D-Fairfax