Passing a Fair Tax Plan Would Ease Maryland’s Fiscal Challenges

By Christopher Meyer and Seth Thomas

As the 2021 legislative session nears, Maryland policymakers must make important choices about how to respond to the fiscal impacts of the coronavirus pandemic, as well as the impacts on Maryland families and communities. The state’s fiscal situation remains highly uncertain, depending on how the pandemic’s severity, federal policy choices, and household spending evolve in the coming months. Decisions made in Annapolis will have major implications for Marylanders’ physical health, our state’s economic health, and our children’s future. A lopsided, cuts-only approach would harm Marylanders of every background and living in every part of our state, with the greatest harms falling on Black and Brown Marylanders and families living paycheck to paycheck. However, with a few smart reforms to our tax system, we can eliminate or significantly mitigate the pandemic’s fiscal impacts and protect our investments in Maryland communities.

If policymakers pass a fair tax plan that clean up loopholes in our tax code and ask large corporations and wealthy individuals to pay their fair share, we can protect essential public services and jobs. Revenue reforms would:

  • Raise $1.4 billion in new revenue in the July 2021–June 2022 budget year, with a four-year gain of $6.1 billion in fiscal years 2022–2025
  • Eliminate or substantially mitigate budget gaps through FY 2025
    • Shrink the FY 2022 general fund cash deficit by at least 59 percent, or eliminate the deficit in two out of four plausible scenarios
    • Reduce the four-year cash deficit (FY 2022–2025) by at least 78 percent
  • Eliminate or substantially mitigate the structural deficit through FY 2025
    • Shrink the FY 2022 general fund structural deficit by at least 77 percent, or eliminate the deficit in two out of four plausible scenarios
    • Reduce the four-year structural deficit (FY 2022–2025) by at least 95 percent
  • Strengthen Maryland’s economy and promote thriving communities
    • Chip away at racial wealth disparities and reduce working families’ income tax responsibilities
    • Protect public- and private-sector jobs, support Maryland communities, and invest in our state’s future
Table 1. Maryland Budget Outlook with and without Revenue Reform, FY 2022–2025
  Closing General Fund Cash Balance ($ Millions)
  Without Revenue Reform With Revenue Reform % Reduction in Deficit
Fiscal Year Worst Case Best Case Worst Case Best Case Worst Case Best Case
2022 –$2,461 –$763 –$1,011 +$687 59% > 100%
2023 –$1,991 –$1,006 –$489 +$496 75% > 100%
2024 –$1,788 –$1,017 –$250 +$521 86% > 100%
2025 –$1,675 –$905 –$86 +$684 95% > 100%
Four-year total –$7,915 –$3,691 –$1,836 +$2,388 78% > 100%
             
  Closing General Fund Structural Balance ($ Millions)
  Without Revenue Reform With Revenue Reform % Reduction in Deficit
Fiscal Year Worst Case Best Case Worst Case Best Case Worst Case Best Case
2022 –$1,877 –$726 –$427 +$724 77% > 100%
2023 –$1,681 –$702 –$179 +$800 89% > 100%
2024 –$1,490 –$735 +$48 +$803 > 100% > 100%
2025 –$1,383 –$638 +$206 +$951 > 100% > 100%
Four-year total –$6,431 –$2,801 –$352 +$3,278 95% > 100%
Source: MDCEP analysis of October 2020 Spending Affordability briefing and 2020 session fiscal and policy notes.

 

Context: Growing Needs, Uncertain Future

As the COVID-19 pandemic approaches its one-year anniversary, Marylanders are counting on our state and local governments more than ever – to contain the virus’s further spread; to educate children under novel, challenging circumstances; and to maintain the roads, transit and other infrastructure that keep our communities going. At the same time, business closures, job losses, and changing household spending patterns have dragged down state revenues, making it harder to sustain these investments. The pandemic’s fiscal impacts have so far been milder than initially expected, but the future remains highly uncertain. As of early December, fiscal analysts project that the state could finish the budget year that begins in July 2021 with a budget gap between $760 million and nearly $2.5 billion.[i]Navigating this uncertainty is one of the most important tasks lawmakers face during the 2021 legislative session.

State analysts have projected Maryland’s budget outlook through FY 2025 under four scenarios, based on two uncertain factors:

  • Revenue scenario:
    • September 2020 Official Estimate: Based on economic modeling by forecasting firm IHS Markit; assumes no additional economic shutdown, future widespread availability of a vaccine, and a second round of federal aid.
    • September 2020 Alternate Estimate: Based on economic modeling by Moody’s analytics; assumes continuing high rates of unemployment and a more sluggish economic recovery.
  • Veto override scenario:
    • No Override: General Assembly does not override governor Hogan’s vetoes of 2020 legislation regarding tobacco and digital advertising taxes (HB 732 of 2020), school construction (HB 1), public school funding (HB 1300), and funding for historically Black colleges and universities (HB 1260).[ii]
    • Veto Override: General Assembly overrides all vetoes, increasing general fund revenues and expenditures. Net impact on the general fund cash balance is positive in FY 2022 and negative thereafter; impact on the structural balance is positive through FY 2025.
Table 2. Maryland Budget Outlook without Revenue Reform, FY 2022–2025
  Closing General Fund Cash Balance ($ Millions)
  Official Revenue Estimate Alternate Revenue Estimate
Fiscal Year No Override

Scenario 1

Veto Override

Scenario 2

No Override

Scenario 3

Veto Override

Scenario 4

2022 –$855 –$763 –$2,461 –$2,369
2023 –$1,006 –1,029 –$1,968 –$1,991
2024 –$1,017 –$1,045 –$1,760 –$1,788
2025 –$905 –$937 –$1,643 –$1,675
Four-year total –$3,783 –$3,774 –$7,832 –$7,823
Source: October 2020 Spending Affordability briefing with calculations by MDCEP.

 

In all four scenarios, these projections indicate that the fiscal challenges we face are large in comparison to recent historical experience:

  • In the most recent five-year period (FY 2017–2021), baseline cash balance projections have ranged from a $544 million shortfall to a $216 million surplus.[iii]
  • The last time the baseline general fund deficit exceeded $1 billion was FY 2013 (estimated in December 2011), amid the sluggish recovery from the Great Recession.
  • The baseline cash balance projection has not seen a deficit larger than $2 billion in the last 15 years, although the FY 2011 projected deficit was more than $1.99 billion.

The approach policymakers take to address these challenges will have wide-ranging consequences for Maryland communities. Cutting public services to balance the budget would worsen the economic downturn and make it harder for the state to manage public health effectively. The most prudent way to weather the current storm is to raise the necessary revenue to protect public investments.

  • Our shared investments in Maryland communities were already falling behind before the pandemic hit—and Marylanders of color bore a disproportionate share of the fallout. Backsliding public school funding is a case in point. After years of gradual cutbacks, more than half of Black students in Maryland went to school in a district that was underfunded by at least 15 percent during the 2016–2017 school year. Funding cuts left schools with little choice but to lay off teachers. Maryland public schools lost 1,600 teachers from 2008 to 2013, even as enrollment grew by nearly 14,000 students.[iv]
  • The pandemic has placed new burdens on Maryland families that will require public investments to effectively address. As of this fall, one in four Maryland renters were behind on their rent—more than 300,000 altogether.[v] Emergency rental assistance could help many of them keep their homes. Research shows that preventing mass evictions can also help slow the coronavirus’s spread.[vi]
  • A cuts-only approach to balancing the budget could severely weaken Maryland’s economy.[vii] Estimates by independent state analysts show that taxes and the public investments they support increase jobs and Marylanders’ take-home income on net because of ripple effects as families spend their income at local businesses.[viii] As of July, state and local budget cuts had already cost 17,500 public servants in Maryland their jobs.[ix] A lopsided fiscal response could eliminate thousands more jobs, including many in the private sector.
  • Taxing individuals with the highest incomes, those with the most built-up assets, and large corporations would likely bring the greatest economic benefits. Because individuals with high incomes – and even more so, those with built-up wealth – have more financial cushion than working families living paycheck to paycheck, each additional $1 of income has little effect on their spending. Careful empirical research shows that during an economic downturn, families living paycheck to paycheck spend about 10 times as large a portion of each additional $1 of income as those with the most built-up assets.[x]This means that asking more of wealthy individuals and using the resulting revenue to invest in essential services that create decent jobs can boost sales at local businesses cushion the impact of a recession.

A Fair Tax Plan Would Reduce or Eliminate Budget Gaps

Reforming Maryland’s revenue system would bring a number of important improvements. It would:[xi]

  • Remove loopholes and special interest tax breaks that today allow large corporations and other special interests to avoid their Maryland tax responsibility.
  • Improve our upside-down tax system, which today allows the wealthiest 1 percent of Maryland households to pay a smaller share of their income in state and local taxes than the rest of us do.[xii]
  • Raise billions of dollars that can be used to protect and strengthen investments in Maryland communities like public schools, health care, and affordable housing.
  • Advance racial justice in Maryland by taxing income gained through wealth rather than work, most of which goes to a small number of deep-pocketed white households.[xiii]

This analysis focuses on eight reforms introduced during the 2020 legislative session. All bill numbers in this section refer to the 2020 session. The reforms included fall into three categories:

  • Clean up our tax code:
    • Close corporate tax loopholes (SB 311):[xiv] Prevent large, multistate corporations from artificially reducing their tax responsibility by assigning profits to subsidiary or parent companies; eliminate untaxed “nowhere income” from out-of-state sales.
    • Close the LLC loophole (HB 507): Levy a 4 percent entity-level tax on the largest 2 percent of LLCs, S-corporations, and partnerships.
  • Remove special-interest tax breaks:
    • End ineffective business subsidies (HB 565):[xv]Discontinue several business subsidy programs that have little record of helping Maryland’s economy.
    • Repeal the Trump private school giveaway (SB 761): Restore the 529 college investment program to its original purpose by prohibiting state tax breaks for private K-12 schools as allowed under the 2017 Trump tax overhaul.
  • Improve our upside-down tax system:
    • Improve Maryland’s income tax (HB 1190): Restructure Maryland’s income tax brackets and rates to reduce tax responsibilities for most working families and ask more of the wealthiest.
    • Offset capital gains special treatment (HB 222): Levy a 1 percent surtax on capital gains income to partially offset the special, lower tax rate applied to this income under federal law.
    • Restore the millionaires’ estate tax (HB 256): Restore the estate tax exemption to its historical value of $1 million, ensuring that wealthy scions contribute to public services.
    • Close the carried interest loophole (SB 216): Offset a loophole in federal law that allows private equity and hedge fund managers to pay the special capital gains tax rate on income from their jobs.

Taken together, these reforms would raise a cumulative four-year total of nearly $6.1 billion in FY 2022–2025. This would help ensure Maryland has the resources needed for a strong recovery from the coronavirus pandemic and ensure we can continue to make bold investments in our future, like the school improvements in the Blueprint for Maryland’s Future plan.

Table 3. Revenue Reform Impacts ($ Millions)
  FY 2022 FY 2023 FY 2024 FY 2025 Four-Year Total % of Revenue from Wealthiest 5%
Clean Up our Tax Code:            
Close corporate tax loopholes (SB 311) +$172 +$184 +$180 +$186 +$723 54%
Close the LLC loophole (HB 507) +$317 +$329 +$341 +$354 +$1,341 Likely substantial
             
Remove Special-Interest Tax Breaks:            
Eliminate ineffective business subsidies (HB 565) +$13 +$13 +$10 +$10 +$46 Likely substantial
Repeal the Trump private school giveaway (SB 761) +$20 +$20 +$20 +$20 +$80 Uncertain
             
Improve our Upside-Down Tax System:            
Improve Maryland’s income tax (HB 11900 +$586 +$614 +$641 +$668 +$2,509 80%
Offset capital gains special treatment (HB 222) +$182 +$159 +$154 +$152 +$645 77%
Restore the millionaires’ estate tax (HB 256) +$117 +$139 +$146 +$154 +$555 100%
Close the carried interest loophole (SB 216) +$45 +$45 +$45 +$45 +$180 Likely close to 100%
             
Total: +$1,450 +$1,502 +$1,538 +$1,589 +$6,079 > 55%
Source: 2020 Legislative session fiscal and policy notes; distributional analysis by the Institute on Taxation and Economic Policy.

 

These reforms would dramatically improve the state’s medium-term fiscal outlook. If the entire fair tax plan were passed, the projected general fund cash balance is consistently positive in two out of four scenarios. In the remaining scenarios, the projected cash deficit for FY 2023–2025 is within recent historical experience.

Table 4. General Fund Cash Balance Outlook with Revenue Reform
  Official Revenue Estimate Alternate Revenue Estimate
Fiscal Year No Override

Scenario 1

Veto Override

Scenario 2

No Override

Scenario 3

Veto Override

Scenario 4

2022 +$595 +$687 –$1,011 –$919
2023 +$496 +$473 –$466 –$489
2024 +$521 +$493 –$222 –$250
2025 +$684 +$652 –$54 –$86
Four-year total +$2,316 +$2,325 –$1,753 +$1,744
Source: MDCEP analysis of October 2020 Spending Affordability briefing and 2020 session fiscal and policy notes.

 

Even in the worst-case scenario, revenue reform would reduce the general fund deficit by more than half in FY 2022 and by more than three-quarters over four years.

Table 5. Revenue Reform Impacts on General Fund Cash Deficit (%)
  Official Revenue Estimate Alternate Revenue Estimate
Fiscal Year No Override

Scenario 1

Veto Override

Scenario 2

No Override

Scenario 3

Veto Override

Scenario 4

2022 > 100% > 100% 59% 61%
2023 > 100% > 100% 76% 75%
2024 > 100% > 100% 87% 86%
2025 > 100% > 100% 97% 95%
Four-year total > 100% > 100% 78% 78%
Source: MDCEP analysis of October 2020 Spending Affordability briefing and 2020 session fiscal and policy notes.

 

Impact on Structural Deficit

Revenue reform would also substantially improve the state’s structural deficit. The structural balance measures the difference between regular, ongoing revenues and regular, ongoing spending. For example, the structural balance includes tax revenues but not lawsuit settlements, and program operating costs but not startup costs for new initiatives.

Without revenue reform, the state is expected to face a structural deficit between $726 million and $1.9 billion in FY 2022 and a four-year cumulative deficit between $2.8 billion and $6.4 billion.

In the best-case scenario, the fair tax plan would completely erase the structural deficit in each year FY 2022–2025. In the worst case, revenue reform would reduce the structural deficit by more than three-quarters in FY 2022 and would nearly eliminate the four-year cumulative deficit.

Table 6. General Fund Structural Balance Outlook with and without Revenue Reform
  Without Revenue Reform
  Official Revenue Estimate Alternate Revenue Estimate
  No Override

Scenario 1

Veto Override

Scenario 2

No Override

Scenario 3

Veto Override

Scenario 4

2022 –$818 –$726 –$1,877 –$1,785
2023 –$719 –$702 –$1,681 –$1,664
2024 –$747 –$735 –$1,490 –$1,478
2025 –$646 –$638 –$1,383 –$1,375
Four-year total –$2,930 –$2,801 –$6,431 –$6,302
         
  With Revenue Reform
  Official Revenue Estimate Alternate Revenue Estimate
  No Override

Scenario 1

Veto Override

Scenario 2

No Override

Scenario 3

Veto Override

Scenario 4

2022 +$632 +$724 –$427 –$335
2023 +$783 +$800 –$179 –$162
2024 +$791 +$803 +$48 +$60
2025 +$943 +$951 +$206 +$214
Four-year total +$3,169 +$3,278 –$352 –$203
         
  % Reduction in Structural Deficit
  Official Revenue Estimate Alternate Revenue Estimate
  No Override

Scenario 1

Veto Override

Scenario 2

No Override

Scenario 3

Veto Override

Scenario 4

2022 > 100% > 100% 77% 81%
2023 > 100% > 100% 89% 90%
2024 > 100% > 100% > 100% > 100%
2025 > 100% > 100% > 100% > 100%
Four-year total > 100% > 100% 95% 96%
Source: MDCEP analysis of October 2020 Spending Affordability briefing and 2020 session fiscal and policy notes.

 

Without making improvements to our tax system, the medium-term structural balance outlook is significantly more challenging than it has been in recent history – which would ultimately lead to significant cuts in public services. With revenue reform, the structural balance outlook would be better than it has been in recent years.

  • In the most recent five-year period (FY 2017–2021), baseline structural balance projections have ranged from –$441 million to +$1 million.
  • The last time the baseline projection exceeded –$1 billion was FY 2013 (estimate as of December 2011), amid the sluggish recovery from the Great Recession.
  • The baseline cash balance projection has been positive only once in the last 15 years.

Pandemic Impact on Revenue Reform Gains Likely Modest

Because the revenue estimates in this analysis are based on fiscal notes published during the 2020 legislative session, they are based largely on pre-pandemic economic assumptions. However, it is likely that the pre-pandemic estimates remain reasonably accurate despite a severe economic downturn. This is because the pandemic’s economic fallout has been concentrated among low-wage workers and families. This means that revenue reforms that focus on wealthy individuals and large corporations will likely raise nearly as much revenue under current economic conditions as they would have pre-pandemic.

  • Economic forecasters predict that the total 2020 earnings of Maryland workers will be between 0 7 percent and 2.4 percent lower than in 2019 (not adjusted for inflation).[xvi]
  • As of early December, the S&P 500 stock index has increased by 12.9 percent since the beginning of 2020.[xvii]
  • Low-paying jobs have disappeared at much higher rates during the current crisis than high-paying jobs.[xviii]
    • The highest-paying economic sector in Maryland, professional, scientific, and technical services ($81,500 median annual pay in 2019), shed only 2% of jobs from the middle six months of 2019 (April–September) to the same period in 2020 (the third-fewest jobs of any sector, with the No. 1 and No. 2 sectors slightly gaining jobs over the same period).
    • The fifth-highest-paying sector, finance and insurance ($61,700 median annual pay), slightly increasedemployment from the middle six months of 2019 to the middle six months of 2020.
    • The lowest-paying sector, accommodation and food services ($24,100 median annual pay), lost 30% of its jobs from mid-2019 to mid-2020—the second-worst performance of any sector.
    • The third-lowest-paying sector, arts, entertainment, and recreation ($28,700 median annual pay), lost 41 percent of all Maryland jobs during this period—more than any other sector.

 

Endnotes

[i] October 2020 Spending Affordability briefing, https://mgaleg.maryland.gov/Pubs/BudgetFiscal/2020-spending-affordability-briefing-october-27.pdf

[ii] Reversing Gov. Hogan’s veto of increased HBCU funding (HB 1260) would require new legislation rather than a simple veto override.

[iii] Baseline balances from Spending Affordability Committee interim reports. This means that the baseline projection for FY 2019 was published in December 2017. This roughly corresponds to our current position in the FY 2022 budget cycle.

[iv] Christopher Meyer, “Lessons from the Great Recession: Policymakers Must Reject Deep Budget Cuts for a Strong Recovery,” Maryland Center on Economic Policy, 2020, http://www.mdeconomy.org/recession-budget-cuts/

[v] “Tracking the COVID-19 Recession’s Effects on Food, Housing, and Employment Hardships,” Center on Budget and Policy Priorities, 2020, https://www.cbpp.org/research/poverty-and-inequality/tracking-the-covid-19-recessions-effects-on-food-housing-and

[vi] Emily Benfer, David Vlahov, Marissa Long, Evan Walker-Wells, J.L. Pottenger, Gregg Gonsalves, and Danya Keene, “Eviction, Health Inequity, and the Spread of COVID-19: Housing Policy as a Primary Pandemic Mitigation Strategy,” pre-print manuscript forthcoming in the Journal of Urban Health, 2020, https://papers.ssrn.com/sol3/papers.cfm?abstract_id=3736457

[vii] Meyer, 2020, “Lessons from the Great Recession.”

[viii] See Maryland Department of Legislative Services, “Economic Impacts of Reducing the Maryland Corporate Income Tax Rate,” 2013, http://dls.maryland.gov/pubs/prod/TaxFiscalPlan/Corporate-Income-Tax-Analysis-Reportfor-web.pdf

[ix] Julia Wolfe and Melat Kassa, “State and Local Governments Have Lost 1.5 Million Jobs since February,” Economic Policy Institute, 2020, https://www.epi.org/blog/state-and-local-governments-have-lost-1-5-million-jobs-since-february-federal-aid-to-states-and-localities-is-necessary-for-a-strong-economic-recovery/

[x] Christopher Carroll, Jiri Slacalek, Kiichi Tokuoka, and Matthew White, “The Distribution of Wealth and the Marginal Propensity to Consume,” Quantitative Economics 8, 2017, https://onlinelibrary.wiley.com/doi/epdf/10.3982/QE694

See Table 4 (p. 1003), Column 2. During a recession, the 1 percent of households with the highest ratio of net worth to income are predicted to spend $5 of each additional $100 of income, compared to $52 for the 20 percent of households with the lowest ratio of net worth to income.

[xi] See Christopher Meyer, “Building our Future: A Revenue Plan for World-Class Schools in Maryland,” Maryland Center on Economic Policy, 2018, http://www.mdeconomy.org/building-our-future/

[xii] Meg Wiehe, Aidan Davis, Carl Davis, Matt Gardner, Lisa Christensen Gee, and Dylan Grundman, “Who Pays? A Distributional Analysis of the Tax Systems in All 50 States,” Institute on Taxation and Economic Policy, 2018, https://itep.org/whopays/

[xiii] See Michael Leachman, Michael Mitchell, Nicholas Johnson, and Erica Williams, “Advancing Racial Equity with State Tax Policy,” Center on Budget and Policy Priorities, 2018, https://www.cbpp.org/research/state-budget-and-tax/advancing-racial-equity-with-state-tax-policy

[xiv] Lawmakers introduced multiple bills to close corporate tax loopholes during the 2020 session. SB 311 was chosen for this analysis because it included both a comprehensive version of combined reporting and the throwback rule.

[xv] Lawmakers introduced multiple bills to eliminate ineffective business subsidies during the 2020 session, with overlapping but not identical provisions. HB 565 was chosen for this analysis because it advanced the furthest, passing the House of Delegates.

[xvi] October 2020 Spending Affordability briefing.

[xvii] S&P 500 data from Google Finance, December 10, 2020, https://www.google.com/finance/quote/.INX:INDEXSP?sa=X&ved=2ahUKEwj819jDzsTtAhWQ1VkKHYQvDCUQ3ecFMAB6BAgBEBk

[xviii] MDCEP analysis of May 2019 Occupational Employment Statistics and 2019–2020 State and Metro Area Employment data for March through September.