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Prudence Needed on Budget
By John Hood

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Nov. 26th, 2014

RALEIGH ó According to the latest monthly report from State Controller Linda Combs, the state of North Carolina has collected about $6.5 billion in General Fund revenue during the first four months of the 2014-15 fiscal year. Thatís a lot of money. But itís almost $400 million less than what the state collected in General Fund revenues during the first third of the 2013-14 fiscal year.

Some Democratic lawmakers and liberal activists are hitting the panic button about this. They argue that if North Carolina is already running $400 million behind last yearís revenue collections, we could end up with as much as a $1.2 billion budget deficit by next June.

Theyíre overreaching and overreacting. Itís quite possible that the early revenue figures donít portend a major problem. But legislative leaders and Gov. Pat McCrory should take seriously any risk that General Fund revenues will fall short of projections. They should hold unfilled positions vacant, defer nonessential expenditures, and develop contingency plans ó just in case. Prudence requires it. Plus, the earlier such steps are taken, the better off weíll be.

Last summer, when the General Assembly crafted its budget adjustments for 2014-15, the consensus forecast was for about $20 billion in income, sales, and other taxes, plus another $1 billion or so in non-tax revenues from such sources as court fees and investment income. Added to nearly $300 million in leftover money from the previous year, that meant North Carolina was projected to have about $21.3 billion to spend during 2014-15.

Lawmakers and the McCrory administration agreed to set some of it aside, primarily in a reserve for possible Medicaid overruns. That left just over $21 billion to appropriate for education, health care, human services, the courts, and other services financed by the General Fund (most transportation spending comes from other dedicated funds).

The crux of the issue, then, is that through the first 33 percent of the fiscal year, North Carolina has collected 31 percent of its projected 2014-15 revenue. That two-point differential may not sound like much. But when working with denominators in the billions, itís real money. On the other hand, itís still higher than the 29 percent of the 2014-15 budget that the state has expended to date. Strictly speaking, North Carolina isnít running a cash deficit.

Moreover, tax collections arenít equally distributed throughout the year. Sales taxes spike during the prime shopping months of November and December. Much of the stateís income tax collections occur during the February-to-April period as households file their annual returns and businesses reconcile their tax liabilities with their quarterly tax payments.

When the legislature reformed the state tax code in 2013, it made dozens of changes, large and small, with the potential to throw off traditional calculations of revenue collections. For example, lower rates and larger standard deductions appear to have prompted many North Carolinians to reduce their withholding as of January 2014. That may have reduced revenue collections in the short run while diminishing the amount of tax refunds the state will have to pay out in 2015. Similarly, the 2013 tax reform allowed a temporary exclusion for self-employment income to expire. Itís possible some business owners and professionals neglected to adjust their quarterly tax payments upward in 2014 to compensate, meaning theyíll owe more than usual by April 2015.

Liberal analysts say the current revenue trends suggest that North Carolinaís economy is underperforming. That doesnít comport with most economic data. State employment gains have been relatively strong in recent months. And the latest available federal data on wages and salaries, through mid-2014, show an annual gain of 4.8 percent in North Carolina, higher than the national and regional averages and up from 3.7 percent during the previous 12-month period.

If you look at the history of revenue forecasts in North Carolina, youíll see the biggest discrepancies tend to occur at the beginning of recessions or just after major tax-code changes. The latter explanation is probably the correct one here, which means that any revenue miss is likely to be temporary rather than permanent.

The situation argues for prudence and vigilance, not panic.

John Hood is chairman of the John Locke Foundation.

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