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Kansas' economic strategy: As great and powerful as The Wizard of Oz?

Kansas' economic strategy: As great and powerful as The Wizard of Oz?

Or should Missouri pay no attention to the man behind the curtain?

April 14th, 2013 in News

A TV advertisement debuting in November 2012 in Missouri features a girl asking how the state will respond to tax cuts taking effect in 2013 in neighboring Kansas, highlighting the most recent round in an economic development competition between the neighboring states. The ad was sponsored by a group calling itself Save Missouri Jobs. (Video screenshot of ad)

In a bid to generate more jobs and economic growth, many Missouri lawmakers would like to see the Show-Me State follow in the footsteps of Kansas, where Gov. Sam Brownback has put the state on what he calls a "glide path to zero" income tax.

Last year, Brownback signed into law a reduction in the state's top individual income tax rate, and he eliminated income taxes on non-wage income for about 191,000 small businesses. He proposed further cuts this spring.

But detractors say Brownback's plan - which has been embraced by Tea Party conservatives in that state - will inevitably lead to steep declines in revenue, necessitating cuts to education and jeopardizing the state's fiscal stability.

In Missouri, many observers are asking: Does Kansas's yellow brick road lead to an economically vibrant Emerald City? Or has Kansas ginned up a financial cyclone of its own making?

Possible tax cuts

In the Missouri Legislature, numerous ideas for tax reduction have gained traction this spring.

One bill endorsed Wednesday by the Missouri House would phase in a 50 percent deduction for business income reported on individual income taxes and cut the state's corporate income tax rate in half over five years. It's projected to eventually reduce state revenues by up to $328 million annually.

Early this month, the Missouri House Ways and Means Committee discussed Senate Bill 26. Sponsored by Sen. Will Kraus, R-Lee's Summit, the bill would modify individual income tax rates, create an individual income tax deduction for business income and reduce the tax rate on corporate income. In exchange, the bill proposes raising state sales and uses tax rates. The correlating cuts to Missouri's general fund budget range from $477 million to $960 million, depending upon whom is asked.

What's the matter with Kansas?

Kraus said he and his staff spent last summer studying Missouri's tax policies. They noticed the Missouri sales tax rate - 4.225 percent - is lower than surrounding states; Oklahoma's is closest at 5.5 percent. They also noticed Missouri's reliance on income tax is 44 percent, compared with about 33 percent in the border states and high-growth states he studied.

"Our reliance on personal income tax is way too high," he said.

Kraus believes Missouri is bleeding jobs and economic activity to business-friendly Kansas. "I believe if we do nothing we are going to lose Missouri businesses. Kansas is specifically targeting Missouri businesses, both with incentives and tax policies. The impact to our state is going to be a loss of revenues, a loss of jobs," he said. "We need to stop the bleeding."

Kraus argued his tax plan is not as extreme as Kansas' plan. "Kansas cut $1.8 billion in a year," he said. "This is $477 million over five years."

Ray McCarty, president of Associated Industries of Central Missouri, said he sees the sense of providing "broad-based tax relief for all corporations."

"But the real reason to do this is we're going to lose highly profitable, portable companies to Kansas," he said.

David Overfelt, president of the Missouri Retailers Association, likes Kraus' bill as well. "There are a number of positives for our industry. Small business is the engine of the economy," he said. "The positives outweigh the sales tax increase."

State revenues may be tenuous

Economic interpreters on both sides of the political aisle don't concur with Kraus' assessment of the economic impact of the major cuts.

Tom Kruckemeyer - a former Missouri chief economist who now works for the non-partisan agency, The Missouri Budget Project - believes the passage of Senate Bill 26 will require Missouri to cut $960 million from the state's general revenue budget, an amount equivalent to a third of the current state funding for schools and $100 million more than the funding provided to higher education this year.

Jim Moody - a former commissioner of administration and state budget director for the state of Missouri under Gov. John Ashcroft - said many in the Capitol are buoyed when see they incremental increases in the state's revenues. But they fail to consider the state suffered a "huge drop in revenues" in fiscal years 2009 and 2010.

"What most people don't realize, when they see the consensus revenue estimates for this year and next - if we hit both forecasts - is that we will still be about $74 million below the fiscal year 2008 actual receipts," Moody said. "At the end of the next fiscal year, which is June 30, 2014, we'll have less money than we had six years ago."

Meanwhile, pressure mounts on the state to meet its obligations to operate prisons, care for the physically disabled, keep nursing homes open, etc. Additionally, state funding for local school districts is about $620 million below the required funding level as determined by the foundation formula.

"As I look forward, I think there's going to be continued pressure on school funding," Moody lamented in an interview with the Jeff City Journal, a program on public access television.

Moody is concerned policymakers - who are seeing modest growth in income tax withholding - might be overly optimistic about the state's revenue picture. He thinks that growth might be due to remittances from quarterly filers. Part of that growth is attributable to capital gains, he said.

"And, as you look at our budget, one of the problems we've got is there's been ups and downs, dramatic shifts, in the revenues we get from capital gains," he said. "If you sell some stock, it's a one-time event. You may do the same thing next year or you may not. I think part of what we're seeing in the growth right now is an uptick in capital gains. We should probably budget that as one-time money, but we don't."

Moody also said that sales taxes have been flat for a long time.

"Our tax structure is predicated on those two sources: individual income tax and sales tax. And when one of them is hardly growing, it's a challenge for the state," Moody told the Journal.

Theory vs. reality

Conservative economists have suggested for years that reducing the tax burden on the business community ultimately spurs economic activity, thus creating more jobs.

Moody is less convinced.

Speaking to the Missouri School Boards Association, he questioned that widely held line of thinking. He noted since 1998, Missouri political leaders have cut $1 billion in taxes.

In 1998, they increased the personal exemption for state taxes and created a dependent deduction. In 1997, leaders eliminated the state sales tax on food.

"That was a big one," Moody said. "It reduced revenues by $225 (million) to 250 million."

In 2007, lawmakers removed state income taxes due on Social Security earnings and public pensions. And two years ago, lawmakers began phasing out the corporate franchise tax.

The state also phased out inheritance taxes and diverted motor vehicle sales taxes from the state's general revenue fund to the Missouri Department of Transportation.

"Some people in the Capitol believe - and it's almost treated as a truism - that if you cut taxes, you'll create more jobs. My analysis ... shows that we've cut taxes, and it hasn't really spurred a whole lot of economic growth," he said to the Journal.

The non sequitur hasn't dissuaded many politicians, or their constituents, who desire lower taxes.

"You hear a lot of impetus in the capital to try and cut taxes even more and possibly even emulate what Kansas has done," Moody said.

This year, Moody has been outspoken with his criticism of Kansas's approach, calling it unsustainable.

"It's the craziest thing I've ever seen, and it's going to create some severe problems for them," he said. "Kansas is in a race to the bottom, and I don't think we should follow them."

In the short term, it will create some challenges for Missouri, he acknowledged, but in the long term, if everyone copies that state, the playing field will only be leveled again.

"And what have you created? Nothing. No new jobs," he said.

Term limits have exacerbated Missouri's revenue shortfall problems, he fears.

In the interview with the Journal, he said: "You have people come in to public office who don't realize we've cut taxes by $1 billion in the last 15 years. And they are like, "Well, we need to cut taxes!' I look at it and say, "We already did.'

"Generally I think the public doesn't know the extent to which we have cut taxes. A billion dollars on a $7.5 billion general fund is a huge cut in taxes."

Speaking to the Missouri School Boards Association, he pointed to a bar chart showing Missouri's net general revenue growth hasn't budged significantly.

"If tax cuts create a lot of economic growth, why aren't these lines bigger?" he asked.

What has Kansas done?

In spring of 2012, Brownback eliminated the state income tax on about 190,000 small businesses and reduced state income tax rates for individuals, according to the Topeka Capital-Journal. The state removed individual income taxes from S-corporations, limited liability companies and sole proprietorships.

The $400 million rollback in business and individual income tax revenue will coincide with the scheduled elimination in July of $262 million in annual sales tax revenue.

In February, the nonpartisan Kansas Legislative Research Department, which provides help to the Kansas Legislature, revealed Brownback's plan would produce a budget shortfall of $781.5 million within five years. Current state spending is about $6 billion annually.

This month, the Kansas Legislature has been discussing if they want to cut funding to higher education institutions for fiscal year 2014. A 4 percent cut would translate into an $11.4 million reduction for the University of Kansas Medical Center and an $8.9 million reduction across the university's other departments and program, according to the University Daily Kansas.

Kansas schools were already coping with budget shortfalls before the tax cuts were implemented; the main sources for school funding were anticipated in 2012 to decline by $65 million, or $154 per pupil - nearly $600 below the 2009 level.

The Kansas court system also will be shutting down for five Fridays this spring to save money.

Groups like the Missouri Budget Project note that Kansas' credit outlook has been downgraded.

Woody Cozad, a lobbyist affiliated with the Save Missouri Jobs coalition, said Kansas "is not going to collapse."

"They will balance their budget in the next week," he told the House Ways and Means Committee.

However, the Kansas Legislature adjourned Friday without meeting that goal; they will reconvene May 8.

Cozad suggested when small-business owners in Kansas City realize they can pay for their child's college education out of the proposed tax savings, they'll move across the state line in droves. "We are facing a serious threat over there," he said. "Missouri is imploding in super slow motion."

Moody believes the impact of the cuts to Kansas's revenues is going to be larger than the economists in that state have officially predicted. He believes people will handily convert their existing business practices into a LLC or sole proprietorship to scoop up tax savings. When that happens, stress on Kansas's coffers is going to rise, he thinks.

Moody's son works with him in the family lobbying/ consulting business. "I pay my son with a W-2. I could just as easily set him up as a sole proprietor," Moody explained.

Moody predicts treating certain taxpayers differently from others is going to create "a kind of tax anarchy."

"Eventually, you're going to figure out I'm getting better treatment than you, and you're going to want equal treatment," he said.

The paradox

Moody said, over time, officials in Missouri have created a situation in which it is relatively easy for political leaders to lower taxes, but more challenging for them to raise them.

In 1996, a constitutional amendment was passed that said significant tax increases would require a vote of the people.

"Even though the debt limit is $90 million, the attitude in the General Assembly is any tax increase needs to be voter approved," Moody said. "Yet all the tax cuts I've discussed were passed by the Legislature.

"And so it's really created a paradox."

Accompanying photo: TV ad about Missouri taxes