Fiscal Policy

Illinois’s Proposed ‘Fair Tax’ Gets Its Just Deserts

llinois Governor J.B. Pritzker delivers remarks at the North America’s Building Trades Unions 2019 legislative conference in Washington, D.C., April 9, 2019. (Jeenah Moon/Reuters)
Voters finally drew a line to reject this progressive income tax. But Governor Pritzker is still not getting the message.

Illinois residents are used to being asked a hard question, often by friends and family members who have fled the Prairie State for lower-taxed and better-managed states: “Why do you stay in Illinois?” Neighboring Indiana famously ran an “Illinoyed” advertising campaign for several years, replete with billboards intended to encourage Illinois families and businesses to move over the border. Taglines included, “Illinoyed by higher taxes?” and, “Admit it. You find me fiscally attractive.”

Illinois is a hotbed of public corruption and holds the nation’s lowest credit rating, with $261 billion in pension debt and a historically massive $7.4 billion budget deficit for the current fiscal year.

It’s one of the worst-run states in the country. Politicians here continue to rack up huge debt burdens and foist an ever-increasing tab on taxpayers, even as taxpayers get less and less for their money.

Yet on November 3, Illinois voters finally drew a line, making it clear they want state leaders to focus on serious fiscal reforms. The 55 percent who rejected a progressive income tax (the “Fair Tax”) also provided an answer for why they stay: It was Illinois politicians who ruined state finances, not them, and they are not willing to give up the fight to fix those finances. A state constitutional amendment to allow real pension reform is the only way to win that fight.

But instead of getting the message, Governor J. B. Pritzker (the most prominent backer of the Fair Tax) has so far promised only more of the same. The day after the election, the governor said he would look to slash spending on services by up to 15 percent across the board. Not only that; a 20 percent tax increase on everyone — the middle class, the poor, and small businesses included — was still on the table.

Paying more to get less is exactly the status quo voters rejected when they turned down the Fair Tax.

Pritzker, a billionaire and the nation’s wealthiest governor, spent $58 million of his own fortune trying to convince Illinoisans his proposed tax hike would only affect “the rich” — or those making more than $250,000 a year. But voters saw through the scheme, recognizing that the $3 billion raised from the initial rate increase would be a pittance next to the state’s chronic debt and deficits. They understood that there would be more to come.

Seniors worried the progressive tax would ultimately extend to their retirement income. All 32 states with progressive taxes tax retirement in some form, and state treasurer Michael Frerichs publicly admitted over the summer that some proponents of the Fair Tax viewed it as the first step toward clawing back revenue from those benefiting from the state’s largest tax exemption.

By ending the old flat basis on which Illinois’s state income tax was levied, the Fair Tax would have virtually guaranteed future tax hikes on the middle class, even if the initial increase would only have hit the top 3 percent. Illinois politicians have a long track record of breaking their promises on taxes and spending. Polls consistently find that Illinois residents have among the least trust in their elected officials of any state in the country.

Who can blame them? Yet another corruption scandal filled the news during the campaign, with Illinois House speaker Mike Madigan, the most powerful politician in the state, at its center.

Absent the $3 billion in Fair Tax revenues, Pritzker will need new ideas to present a balanced budget to the General Assembly for the coming fiscal year. The exact size of the deficit is yet to be determined, but it won’t be pretty. For fiscal years 2020 and 2021, the state will lose a combined $6.3 billion in expected revenues as a result of the COVID-19 pandemic and the measures taken to combat it. State pension costs will grow beyond the previously expected $11 billion, owing to investment losses in volatile markets.

Further short-term borrowing should be avoided as much as possible, lest the state trigger a formal downgrade to non-investment “junk” status by ratings agencies. The state’s backlog of unpaid bills is growing again, sitting at $9.2 billion as of November 9. Short-term borrowing was used to paper over deficits for the current and prior budget years, and repayment of that borrowing leaves $2 billion less for future years before even adding interest costs.

Income-tax hikes and a 15 percent hatchet to discretionary state spending is also the wrong path.

Voters rejected income-tax hikes when they overwhelmingly said “no” to the Fair Tax which was likely the most politically palatable tax hike the governor could have devised amid business shutdowns and continued high unemployment. Besides, two major income-tax hikes in the past decade already failed to restore the state’s financial position. Illinois’ net debt more than quadrupled over that period despite the state taking in $8.7 billion more in annual revenue. But those tax increases did succeed in further slowing Illinois’s weak economy. They also helped drive the nation’s worst population loss over the past decade.

Many of the state’s most vital programs already have been cut close to the bone because of the pension crisis. Inflation-adjusted spending on the state’s pension systems grew 501 percent from fiscal year 2000 to 2020. That increase led to a 32 percent drop in spending on a range of core government services. Higher taxes were accompanied by disinvestment in public safety, public-health programs, higher-education spending, and services for the poor and disadvantaged.

The pension crisis lies at the heart of Illinois’ most severe economic and fiscal challenges. Fixing it is the key to any workable budget solution.

A “Hold Harmless” pension reform plan developed by the Illinois Policy Institute could save the state roughly $2 billion per year in annual pension contributions and $50 billion over the next 25 years, after which Illinois pension debt would be fully eliminated. The plan would protect pensioners’ earned benefits while reducing the future growth in benefits to a level that is sustainable and affordable, through modest changes such as replacing guaranteed 3 percent post-retirement raises with a true cost-of-living adjustment tied to inflation. It would also protect public servants’ retirement benefits from the prospect of total insolvency that looms without reform.

Moreover, pension reform would ensure that as much of Illinois’s scarce resources as possible are invested in the things people want and need the most, allowing lawmakers to target any needed cuts in the operating budget to less important (or less effective) government services and programs. The state already collects outcome data on the effectiveness of state spending through an initiative called “Budgeting for Results,” but lawmakers have yet to use that information to prioritize state spending.

Outcome-based budgeting offers a way to cut spending with a scalpel rather than the indiscriminate 15 percent across-the-board butchery discussed by Pritzker.

For example, more savings can be found in cutting down on duplicative and wasteful bureaucracy in school-district administration. Illinois spends double the national average on general administrative costs per student. If it matched the average, it would spend $708 million less annually. Such reforms could increase resources for students and classrooms, where funds are most effectively spent, while still saving the state money.

These ideas — pension reform, most of all — would require Pritzker to buck certain special-interest constituencies such as the public-sector-union leaders who have been among his closest allies to date. But it is a necessary step to prevent Illinois from collapsing under the weight of its mathematically unsustainable pension debt.

If he instead chooses to stick by the special interests, cutting vital services, and hiking everyone’s taxes, he’ll face Illinois taxpayers who are sick of asking themselves why they stay in their home state and who are ready for transformational change. He will have to explain why he is still asking them to pay more and get less, rather than pursuing a new path that would leave the whole state better off.

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