Officially, Michigan’s state government is spending $48.2 billion this year on education, health care, prisons, transportation and all other spending programs.
But the state actually is shelling out $78.9 billion — 64 percent more than the spending allocated through the state budget.
It’s happening through something called “tax expenditures”—tax credits, deductions and exemptions that are off the books and largely off the radar screens of lawmakers.
“This is a form of silent spending that we need to lift out of the shadows,” said Gilda Jacobs, president of the Michigan League for Public Policy and a former state senator. “Tax expenditures should be viewed just like appropriations and evaluated every year.”
Doling out money through tax expenditures is the same as appropriating it through the budget process, experts say.
“Whether you get a $100 check from the state or a $100 tax credit, it has the same impact,” said Mitch Bean*, the retired director of the state House Fiscal Agency. “And once these tax expenditures are put in place, they’re really hard to get rid of.”
Tax expenditures reach every corner of state
The Treasury Department prepares an annual report on tax expenditures that typically runs more than 100 pages in length. It estimates the cost of dozens of tax breaks, including such things as a sales tax exemption on vehicles purchased by churches ($2.57 million this year), a business tax credit for advanced auto battery manufacturers ($285 million) and a property tax credit on farmland ($42.9 million).
The Treasury Department forecasts that tax expenditures from state business and individual income taxes, sales and use taxes, and transportation taxes alone will be $21.6 billion in 2014, $1 billion more than the $20.6 billion the state is expected to collect in revenues from those taxes.
Nearly 71 percent, or $15.3 billion of those tax breaks will be goods and services exempted from state sales and use taxes.
Bean and others say tax expenditures aren’t all bad. Most policy-makers and taxpayers favor the exemption of food and prescription drugs from the state sales tax, for example.
Those exemptions alone will cost the state $1.8 billion in the current fiscal year ending Sept. 30, according to a report on tax expenditures prepared by the Treasury Department.
Conversely, the exemptions lower the costs of food and medicine for consumers and provide a tax benefit for grocers and pharmacies.
Broad is good, but how do you get there?
Policy advocates -- liberals and conservatives – contacted by Bridge generally agreed that best tax system is one that applies to a broad base of businesses and individuals, and taxes them at a low rate.
Where they part company on tax expenditures is what to do with revenue generated by their elimination.
Liberals tend to want to use the money for more government spending. Conservatives prefer offsetting new revenue by cutting tax rates.
“We have long believed in a fair field and no favors,” said Michael LaFaive, director of fiscal policy at the Mackinac Center for Public Policy, a free-market group based in Midland. “Many of these tax expenditures seem to us like industrial policy-type gifts,” he said. “If we were to eliminate them and lower the tax burden, all of us in Michigan would be better off.”
LaFaive said he’s in favor of scrutinizing the effectiveness of tax incentives, but said putting sunset provisions on them might not result in their elimination. The 1995 Michigan Economic Growth Authority business tax credit program had a sunset requirement, but was regularly renewed by the Legislature until it was eliminated through a revamping of the tax code in 2011.
“My gut after 20 years in this business tells me that it would just become a pro forma thing for lawmakers to put on their calendar and approve,” he said.
Legislative Democrats have targeted tax expenditures as a resource to advance additional spending.
“If we could save 10 percent on tax expenditures, we could send every student to a university, two-year college or trade school,” Senate Democratic Minority Leader Gretchen Whitmer said.
She and Democratic lawmakers have proposed the Michigan 2020 plan, which would fund college tuition for every high school graduate in the state. The plan would cost an estimated $1.8 billion a year, and would be paid for by eliminating certain tax expenditures that Democrats claim “don't do a single thing to create any jobs or serve a public purpose.”
The search for tax resources has been a bipartisan affair in Lansing this year.
Hunting for dollars in Lansing
Gov. Rick Snyder, for example, proposed spending an additional $1.2 billion annually on road funding as a vital – and cost-efficient – investment for the state. The Republican-controlled Legislature balked at his request, deciding to appropriate instead $350 million in new road dollars for next year that came via stronger than expected tax collections.
Snyder, with approval of the Legislature, has trimmed nearly $2 billion in tax expenditures from the sales, business, transportation and individual income taxes since taking office in 2011. That’s largely been done by extending the personal income tax to pensions, eliminating a variety of personal income tax credits and deductions, and converting the credit-laden Michigan Business Tax to a simplified corporate income tax.
But a $1.7 billion tax cut for businesses has left little for additional spending.
Many Republicans and Democrats agree that fairest tax system is one that assesses a low tax rate across a broad, diversified base of taxpayers.
“We would be better off if we had a tax policy that reduced the rates and eliminated as many tax expenditures as possible,” Bean said.
Former Gov. Jennifer Granholm tried several times to lower the sales taxes and apply it to a variety of untaxed services, but failed as powerful business lobbying groups and others opposed those efforts.
Doing away with a broad swath of tax expenditures would likely prove to be politically impossible. Many have strong support from lawmakers and taxpayers alike.
Snyder’s move to tax pensions as personal income, for example, has made him unpopular among many older voters and could threaten his prospects for re-election next year.
And some of the more costly tax expenditures likely aid the state’s economic competitiveness, said Tim Bartik, senior economist at the Upjohn Institute for Employment Research in Kalamazoo.
For example, manufacturers will save about $1.1 billion this year through the industrial processing sales tax exemption. It allows them to avoid paying sales tax on goods purchased for the various steps of production for making cars, washing machines and other goods. Sales taxes are collected on the finished products.
The annual report on tax expenditures is required by law and is intended to help lawmakers and others evaluate the effectiveness of these multibillion-dollar tax breaks. But the report says lawmakers “tend to ignore” tax expenditures during the budgeting process.
Education, road accounts pinched
Just as tax expenditures have risen, Michigan has cut support for a variety of basic government functions.
Appropriations for higher education have fallen from $1.7 billion in 2004 to $1.4 billion this year, a 17.6 percent decline. Adjusted for inflation, that’s a 30 percent cut.
And while the Snyder administration argues per-student funding has increased an average $632 per student "over the last three years," a new report from the nonpartisan Citizens Research Council says that when adjusted for inflation and retirement contributions, per-pupil money available for the classroom is down 8.8 percent for all public schools, and down 13.1 percent for traditional K-12 districts since fiscal 2004.
There’s been just a slight increase in raw transportation funding in the same time period, from $2.16 billion in 2004 to $2.166 billion this year. Adjusted for inflation, though, that increase becomes an 18 percent cut.
One industry official said it’s time to examine the elimination of some tax expenditures to create more road dollars.
“Because this has been such a difficult thing to deal with in the Legislature, we have to be open to any and all ideas,” said Mike Nystrom, executive vice president of the Michigan Infrastructure and Transportation Association. “It’s certainly something we should be considering as one of the options.”
But getting business owners and others to give up the various breaks they take advantage of in the tax code in order to better fund state services would likely be a herculean task.
James Jacob, CEO of Ajax Paving Industries Inc. in Troy said he thinks the state should not abandon the current system of road funding in favor of a different mechanism, such as using money from the elimination of tax breaks.
Michigan just needs to raise more tax and fee revenues to improve its transportation system, he said.
“It’s pretty simple; if you use the roads, you should pay for them,” he said. “I like the way we do it now. The system has mostly served us well over the years.”
*Bean is a member of the Bridge Board of Advisers.