Is the dragon truly slain?
Nope. Despite the Governor’s efforts, which have resulted in a budget which is nominally balanced, the systemic problems with the Maryland state budget remain.
The proposed budget relies on a number of one-time or questionable fixes to get to a balanced budget this year. For example, the budget assumes almost $400 million in additional stimulus funding from the Federal Government which has not yet been appropriated. Some $300 million is borrowed from an account which holds tax revenue that belongs to local jurisdictions and virtually all capital expenditures are funded by selling bonds.
In addition, the budget proposes continuing the furloughs of state employees and paring additional, vacant positions. Further, the $330 million in cuts to local aid that were begun in 2010 are continued in 2011.
There are plenty of good things about the budget. Education assistance to localities for kindergarten through high school is fully funded. There is a $120 million increase for public safety and $20 million for the Chesapeake Bay Trust Fund. Energy assistance, to help struggling Marylanders with their utility bills is increased and health insurance for poor children is maintained.
Sure, Republicans will criticize the budget, but they won’t offer any real alternatives of their own. Their apparent position is that taxes should be increased, the budget should be balanced but we won’t tell you what we’re going to cut – primarily because we either have no idea or think the cuts will be so unpopular they’ll never fly.
But I digress. The Governor (and the General Assembly) really hasn’t come to grips with the structural imbalance in the state budget. Here are a couple of proposals to bring some balance back into the budget.
Phase out state funding of teachers’ and librarian’s retirement. The state has budgeted more than $900 million dollars this year to pay the cost of retirement benefits for teachers and librarians – employees of the various counties and Baltimore City; this makes no sense. The cost of retirement benefits for these employees is based on the number of employees and their salaries. The state controls neither of these. It is completely unreasonable for the state to agree to pay the full cost of something when that cost is fully controlled by others. Start now to transfer that cost back to the local jurisdictions where it belongs, perhaps reducing the state’s share by 10% a year until it’s gone.
Institute Combined Reporting for Corporations. Plenty of corporations that do business in Maryland and make profits in Maryland do not pay Maryland corporate income taxes. How do they do this? There are two basic methods.
The first method is the Trademark Holding Company, used by Home Depot, Toys R Us and many others. Under this method the company trademark is owned by a subsidiary set up in a state that does not tax intangible income, such as Delaware or Nevada. The subsidiary consists of little more than an address. Other parts of the company then pay hefty fees to the subsidiary for use of the trademark, basically erasing their profits in the states where they are earned and transferring them to the subsidiary. Since the profits of the subsidiary are not taxed, the parent company is home free.
The second method relies on a captive Real Estate Investment Trust or REIT. This is how the Wall Street Journal explained Wal-Mart’s use of a captive REIT: “One Wal-Mart subsidiary pays the rent to a real-estate investment trust, or REIT, which is entitled to a tax break if it pays its profits out in dividends. The REIT is 99%-owned by another Wal-Mart subsidiary, which receives the REIT’s dividends tax-free. And Wal-Mart gets to deduct the rent from state taxes as a business expense, even though the money has stayed within the company.” (“Wal-Mart Cuts Taxes By Paying Rent to Itself,” by Jesse Drucker, Feb. 1, 2007.)
To further complicate things, chains often set up these REITs in states with no corporate income tax on earnings from intangible assets (such as Nevada and Delaware). This creates an additional obstacle for states to challenge this practice.
Note that companies that operate entirely within our state don’t have the ability to use these tax dodges. Thus, the big national chains tilt the playing field in their favor when competing with local businesses.
The simple solution to this is combined reporting – currently used by 21 states. Under combined reporting, companies must combine profits from all of their subsidiaries, including trademark owners and captive REITs and then allocate their profits to the various states based on how much of their profits, property and employees are in each state.
Combined reporting was proposed for Maryland in 2007 but was defeated due to aggressive lobbying by business groups and the national chamber of commerce. It’s time to try again. Combined reporting could bring another $100 million of revenue to the state without increasing tax rates.
These two changes together could reduce the state’s budget hole by about $1 billion – not a drop in the bucket. Let’s see who picks up the ball.