Over the past few days, several of you have asked me about the design of the tax triggers in LB 461. I’d like to take this opportunity to respond to these inquiries in slightly more detail.
The triggers in LB 461 use projected revenues for the coming fiscal year; most other states have relied on the trailing year’s actual revenues instead. Many of the questions I’ve fielded have been about the reliability of the option proposed for Nebraska, and specifically whether this model risks repeating the mistakes of Oklahoma, a rare case of triggers not working as intended.
My organization has been critical of the design of Oklahoma’s triggers, writing last September—well before that state’s triggers were suspended this week—that “[b]y relying exclusively on year-over-year general fund balance projections, triggers like those employed in Oklahoma have the potential to trigger tax cuts in a year when revenue declines unexpectedly.”
The question, then, is whether LB 461’s use of projections mirrors the Oklahoma model, and the good news is that it does not. Oklahoma took the unusual approach of setting the trigger benchmark as an increase from one year’s projection to the next year’s projection, never taking any actual revenues into account. Nebraska would not do that under LB 461, instead looking to projected revenue for the upcoming future year compared to actual prior year revenues.
To clarify the differences in these approaches, imagine a simple scenario with $1 billion in initial revenue, and triggers based on 2 percent growth. In an Oklahoma-style trigger, if the state projected that first-year revenues would be $1.02 billion but they actually reached $1.05 billion, and then projected that revenues would flatline in the second year, remaining at $1.05 billion, tax cuts would be triggered both years, since $1.05 billion is more than 2 percent above the prior year’s projection of $1.02 billion, even though it’s clearly not 2 percent above the prior year’s actual revenue. That’s clearly a problem; you could even have a case where the state projected a revenue decrease but still triggered a tax cut.
This would not happen under LB 461 in Nebraska, because the legislation uses actual prior year’s revenues as a baseline, and relies on a determination of whether projected revenues for the upcoming fiscal year represent sufficient growth to permit the next stage of tax relief to be implemented.
Revenue projections, as many have noted, are decidedly imperfect. Nevertheless, it’s what every state relies on when it comes to the most important piece of fiscal legislation considered each year: the budget itself. The state’s outlays are always based on projected revenues, not the prior year’s actual revenue. Essentially, the triggers in LB 461 make tax relief an element of the budgeting process, just like any other expenditure.
These triggers are also very cautious, implementing very modest cuts only when significant growth is anticipated. Most states using triggers to implement contingent tax reform have set thresholds well below 3.5 percent. Furthermore, because LB 461 relies on projections, it adds another level of restraint that hasn’t been seen elsewhere: it reserves the full share of the growth benchmark to the state, rather than using any portion of it to pay for the tax reductions. Projections are made assuming the lower rates are in place, and only if 3.5 percent growth is anticipated even after the implementation of tax relief would the contingent reduction be triggered. (Editor's note: emphasis ours).
This approach differs sharply from the one tried in Oklahoma. There is room for good faith disagreement as to whether a backward-looking approach that can be keyed entirely to actual revenues or a forward-looking approach which follows the standard budget process by using revenue estimates is preferable, but both models are cautious and take actual economic conditions into account.
More generally, tax triggers have become an increasingly popular mechanism for implementing tax reform in recent years, used in “red” and “blue” states alike—places like Massachusetts, New Hampshire, North Carolina, Oregon, Michigan, and the District of Columbia. They represent a responsible way to phase in tax reform subject to revenue availability, ensuring greater stability in state budgeting.
Thank you for the diligence with which you and your colleagues have vetted this significant piece of legislation, and please do not hesitate to let me know if I may be of any assistance to you, or answer any other questions you may have.