After more than a month of strained negotiations about how to raise money to offset a gigantic state budget deficit, lawmakers saw a third path Tuesday morning: Raise the tax burden on everybody.
The Senate put forth a plan that takes pieces of both the House and Senate proposals without giving either chamber what it really wanted.
The proposal calls for increases in sales taxes and sin taxes, as well as a two-year surcharge on corporate and individual income taxes for all taxpayers, to raise $990 million. It would put the total budget for this fiscal year at about $18.9 billion.
Budget writers are facing an unprecedented drop in revenue, but the exact size of the deficit has been a hot debate. Revenue next year is expected to be more than $4 billion below what it would have taken to keep funding programs and services at recent levels, and Democrats have described the deficit as $4.5 billion or more. Unlike the federal government, the state must have a balanced budget.
Republicans say that number is exaggerated four-fold. The Democrats' math doesn't include about $1.3 billion in federal stimulus money that will offset some losses in revenue. And Republicans say that the deficit should include the federal dollars and should be measured against last year's spending, which was already sharply curtailed.
Either way, Democrats say, painful cuts will be necessary. Proposals include cutting thousands of teacher jobs and raising the average class size, reducing health care benefits for the poor and closing prisons.
Lawmakers say the plan presented Tuesday represents the best chance for a compromise between the two chambers, and budget negotiators worked Tuesday evening to iron out the finer points of the sin and sales taxes. Negotiators will try to sell rank-and-file members on the details today.
Supporters of the plan say it will raise the revenue Democratic lawmakers say the state needs to prevent dramatic cuts to education, public safety and health services.
"Nobody wants any more taxes, but they also don't want cuts on services," Sen. David Hoyle, a Gastonia Democrat involved in budget negotiations, said last week. "People don't realize the state is in an economic crisis."
Brace for fury
The plan is sure to anger many state residents, who will face up to an extra dollar in sales tax for every $100 they spend shopping.
"This is always the case in government," said Jon Blum of Angier, who bought more than $130 worth of household items at the Super Target in Cary. "They need to learn to do more with less, just like we're having to do."
Phil Berger, the Senate Republican leader, said a recession is not the time to raise taxes, especially on revenue streams that have already caused problems.
"It looks to me that they've gone back to what they've done in the past, and they're not presenting us with anything new," he said. "And the way they've done it in the past is part of the reason we're in this mess."
Republican leaders in both chambers say new taxes in a recession will lead to an even higher unemployment rate, which has hit 11 percent.
House and Senate Democrats are expected to discuss the tax proposal in closed sessions today. Even if members agree, negotiators still have to work out which state programs will be cut. House Speaker Joe Hackney said an agreement could be final within a day or two.
"We think it's time to get an agreement and finish this off," Hackney said.
There seems to be agreement on that point.
"We've got to get out of here," Hoyle said.
Little innovation here
The plan is not flashy. It's not groundbreaking. Unlike previous proposals for this year's budget that aimed to rewrite the tax code and tap different sources of revenue, the compromise relies on areas that are already taxed.
The Senate put aside, for now, its goal of broadening the sales tax base to include services, which would allow the state to lower rates on all major forms of taxes. The House had to throw out its proposal for combined reporting, which would require national corporations to report all earnings in all states to make it tougher to dodge taxes. Lawmakers said the chambers were reluctant to go along with each other's reforms, which was one reason for the delay.
Senators said they would take another run at their plan when the legislature reconvenes for the short session next year.
The compromise proposal calls for raising sales taxes by three-fourths of a cent, though lawmakers said this number is still on the bargaining table and could rise to 1 cent. The current state sales tax rate is 4.5 cents for every dollar. And, in most counties, state and local taxes are 6.75 cents per dollar. Under the compromise, the sales tax would rise to 7.5 cents or 7.75 cents for each dollar in most counties.
Dumping a service tax
The plan would abandon the idea of expanding the sales tax to include services such as auto repairs and new items such as entertainment purchases. The proposal would allow the state to collect sales tax on digital purchases, such as music downloads. Many online retailers would have to collect sales tax.
While everybody pays sales taxes, the tax affects some groups more than others, especially low-income households, said Elaine Mejia, a researcher with the N.C. Budget & Tax Center, which advocates fair treatment for the poor.
A 1-cent sales tax increase would raise $843 million in the next fiscal year, according to projections made by the governor's office earlier this month.
Sales taxes are easy for consumers and voters to deal with, because they apply across the board and are paid in small increments, many lawmakers have argued.
Some consumers say the tax wouldn't be too much of a burden. "If it was something I noticed in my budget, then I would probably cut back," said Jeannie McAuliffe of Raleigh, who was shopping Tuesday at the Cary Super Target with her 18-month-old son. "But I can't imagine 1 cent will stop me."
A tax surcharge
The income tax proposal is the second major component of the compromise plan. It would impose for two years an extra 2 percent charge on income tax liability for all taxpayers, including corporations. The surcharge would cost taxpayers an extra 2 percent of their income tax bill, not their entire income.
The use of such surcharges is not widespread, but it has picked up recently with the recession. California, Hawaii, New Jersey and Oregon all have imposed surcharges on high income earners to make up budget shortfalls. All four states have struggled with balancing their budgets.
"These things tend to be implemented when a state is focused more on solving a short-term budget problem, rather than fixing whatever long-term problems there might be," said Joseph Henchman, director of state projects for the Tax Foundation, a Washington-based research group. He said surcharges make tax structures more complicated.
The governor's original surcharge proposal would have targeted only the rich, but the Senate proposal would apply to everyone.
