Shaky state funding means local governments need to be more efficient

Shaky state funding means local governments need to be more efficient

By Chrissy Mancini Nichols

Sep 8, 2015

This post first appeared at metroplanning.org

With no end in sight to the Illinois budget stalemate and projected Fiscal Year 2016 revenues billions less than what’s needed just to maintain last year’s services, state government has few options but to cut the share of money it sends to local governments.

The state shares revenue with local governments

The state has previously taken measures that limit local government revenue sharing to help close budget deficits. For example, when the General Assembly temporarily increased income taxes from 2011 through 2014, it reduced the share to local government. And the Fiscal Year 2016 budget crisis likely means local governments, like many other entities that rely on state funding, will feel the crunch. In his Fiscal Year 2016 budget, Gov. Bruce Rauner proposed cutting the amount of revenue the state shares with local governments by $600 million.

State revenue sharing is an important revenue stream for local governments, particularly because state law prohibits them from instituting certain taxes on their own, such as local income taxes. Most localities also cannot raise property taxes above inflation, and only home-rule governments can adopt their own local sales taxes.

Today Illinois state government shares about 16 percent of its total revenues with local governments. It is statutorily required to do so—with a percentage of some state taxes, like income and sales, funneled directly to them.

Though revenue sharing over the past 17 years has risen in current dollars, the amount of revenue the state shares as a percent of total state tax collections has declined, from a high of just over 20 percent to about 16 percent in 2014.

 Analysis of Illinois Dept. of Revenue data

Analysis of Illinois Dept. of Revenue data

 Analysis of Illinois Dept. of Revenue data

Analysis of Illinois Dept. of Revenue data

Current dollars describes funding in the year in which the local government receives it. For example, sales tax revenues received in 2010 unadjusted for inflation is in current dollars.

Constant dollars describes funding after adjusting for inflation overtime. Due to inflation, the purchasing power of the dollar changes over time, so in order to compare dollar values from one year to another, they need to be converted from current dollar values to constant dollar values.

While the overall share of state tax collections to local governments has declined, the total dollar amount of revenues shared, in constant 2014 dollars, has remained about level. The reason is many of these dollars are required by state statute to flow as a percentage of their total and change based on the economy—For example, local governments receive 20 percent of sales taxes, so when state sales tax collections increase, locals share in that increase. Further, while locals did not share in the revenue growth from raising the income tax in 2011-2014, they were not cut. So while there was a slight downtick in current dollars during the recession between 2010 and 2012—mostly from sales tax revenues declining as consumers purchased less goods—revenues from income and personal property replacement taxes grew over inflation, resulting in revenue sharing with local governments from these sources trending slightly upward.

While overall sales tax revenues to local governments have slightly ticked downward, income and personal property replacement tax revenues have trended positively (Figure D).

It is common practice nationwide for states to share revenues and provide grants to local governments. For example, Michigan shares a portion of sales taxes revenues with local governments on a per capita basis, Ohio counties and certain municipalities receive a 3.68 percent share of all general revenue tax collections and Tennessee sales tax revenues are disbursed to locals based on population. Nationally, local governments take in more than $1.2 trillion in both tax revenues and transfers from other units of governments—about 33 percent of that coming from states.

 Source: Federal Reserve Bank of Chicago

Source: Federal Reserve Bank of Chicago

But Illinois local governments share less in state revenues than other states. A regional and national comparison shows that Illinois local governments receive a smaller share of revenue from the state compared with neighboring states and the national average.

State funding is critical because local governments are prohibited from raising taxes

There are more than 1,300 municipalities and counties in Illinois, collecting some $25 billion in revenues annually. One-third of that revenue is generated from property taxes and a significant portion—almost 25 percent—from state revenue sharing.

In Illinois, the Property Tax Extension Limitation Law, commonly referred to as “tax caps,” limits increases in property tax extensions to the lesser of 5 percent or the increase in the national Consumer Price Index for the year preceding the levy year. While most home rule governments and smaller counties are exempt from this limitation, they have generally followed it. Chicago, for example, has historically rarely increased property taxes above inflation. Because Illinois local governments rely on property taxes more than most other states, tax caps greatly impact how much revenue they are able to take in every fiscal year and means that state revenue sharing is even more important to balance budgets and provide local services.

The solution: Transform Illinois, a coalition for effective governance

With the State of Illinois in fiscal distress, it is more important than ever that local governments analyze how they deliver services to do so effectively and efficiently. And with more than 7,000 units of local government in Illinois, the most in the nation, there’s plenty of opportunity to do so. For example, DuPage County and Township snowplow crews plow different roads in some areas, resulting in inefficient and uneven plowing and additional cost.

Under the leadership of DuPage County Chairman Dan Cronin, and through the facilitation of the Metropolitan Planning Council (MPC), Transform Illinois is a coalition committed to improving the effectiveness of government service delivery in Illinois. Through research, communications and advocacy, Transform Illinois is working to eliminate redundant and ineffective units of government, revise funding mechanisms to create incentives for efficiency, and discourage the creation of new, single-purpose units of government unless there are demonstrable efficiency gains from doing so. For example, municipalities working together to share services for garbage collection or purchasing supplies or road salt are small steps that will save money.

As a result, local governments in Illinois will be prepared to adapt to the fiscal realities of today and tomorrow to deliver high-quality services and infrastructure efficiently. Through Transform Illinois, MPC and its partners will research and propose solutions related to the function and effectiveness of the many units of government in Illinois. Already three bills are on their way to the Governor’s desk that begin to steer the state in the right direction: House Bill 3747dissolves the Fair and Exposition Authority, removing an extra and unnecessary layer of government and freeing up hundreds of thousands of dollars currently held in the Authority’s reserves to address more than 600 existing code violations on the DuPage County fairgrounds. And Senate Bill 96, signed by Ill. Gov. Bruce Rauner, will require that 911 emergency centers in smaller municipalities and counties consolidate and modernize their equipment to save an estimated $100 million and improve public safety.

Accompanying the change to DuPage County, House Bill 228 allows the state of Illinois to hit pause. The bill, sponsored by Rep. Jack Franks (D-Woodstock), will place a temporary, four-year moratorium on the creation of new governments in Illinois. While many units of government create tremendous value for the public, the bill allows us to take inventory of our existing units of government and improve the system for the better.

It’s clear local governments can no longer rely on Springfield to help balance their budgets—and with ever mounting pension debt and outstanding bills, state revenue sharing with local governments may soon be jeopardized even further, along with other cuts to local government such as parks and human service grants. Locals must transform themselves and modernize how they do business to adapt to fiscal reality.

The nuts and bolts

The gritty details of how Illinois shares revenue with local governments: 

Income Taxes

Prior to the 2011 income tax increase, one-tenth of the net collections (gross collections minus refunds) was distributed to municipal and county governments in proportion to their population. Along with the income tax increase, in 2011, that was changed to six percent of the individual income tax net collections and 6.86 percent of the corporate income tax net collections. Essentially local governments did not receive any revenue benefit from the income tax increase.

Sales and Use Taxes

In Illinois, the term “sales tax” actually refers to several tax acts, mainly “occupation” taxes and “use” taxes. “Occupation” taxes are imposed on purchases made in Illinois for consumption, like clothes or a dishwasher. You pay “use” tax, for example, when you purchase something on the internet or through a catalogue.

Use Tax

  • The “local” share of use tax, 1.25 percent on general merchandise and 1 percent on qualifying food, drugs and medical appliances, is deposited in the State and Local Sales Tax Reform Fund and distributed to local governments as follows:
  • 20 percent to Chicago
  • 10 percent to the Regional Transportation Authority Occupation and Use Tax Replacement Fund
  • 6 percent to the Madison County Mass Transit District (subject to appropriation to the Ill. Dept. of Transportation)
  • $37,800,000 annually to the Build Illinois Fund
  • Balance to counties and municipalities (except Chicago) based on relative share of population.

Occupation Tax

  • The local governments’ 20 percent share of general merchandise and 100 percent of the amount from sales of qualifying food, drugs and medical appliances from sales tax and the 20 percent share of titled or registered items of tangible personal property from Use Tax, is disbursed as shown below.
    • Municipal share of state sales tax: 16 percent of the total general merchandise collections and 100 percent of the tax collected on qualifying food, drugs and medical appliances sold within their incorporated boundaries and out-of-state purchases by residents or businesses within their boundaries.
  • County share of state sales tax—16 percent of the total general merchandise collections and 100 percent of the tax collected on qualifying food, drugs, and medical appliances sold within their unincorporated areas.
  • Countywide share of state sales tax — All counties but Cook County receive the equivalent of 4 percent of the total general merchandise collections on general merchandise sold anywhere in the county. The RTA receives a distribution equal to 4 percent of the total general merchandise sold anywhere in Cook County.

Out of the state’s 80 percent share:

  • The Build Illinois Fund receives 5.55 percent to retire bonds. Local governments indirectly receive sales tax revenues through programs financed by the Build Illinois Program.
  • Local government tax increment financing districts are allocated 0.27 percent. The department distributes state sales tax collections to participating municipalities that have established a State Sales Tax district and/or a State Utility Tax district before Jan. 1, 1987 that produced an incremental growth taxes measured against the 1985 base. Funds are prorated to each participating municipality and are distributed quarterly based on its share of the overall TIF net state increment.
  • The Public Transportation Fund receives an amount equal to 30 percent of the revenue realized from the Regional Transportation Authority Sales Tax and 30 percent of the revenue realized form the Chicago Transit Authority’s portion of the Real Estate Transfer Tax in the City of Chicago.
  • The Downstate Public Transportation Fund, established in 1974, funds public transportation in parts of the state not served by the RTA. It receives 3/32 of net revenue from the State’s share of sales tax (5 percent) generated within the boundaries of any participant under the downstate Public Transportation Act (other than any Metro-East participant) and Monroe, St. Clair, and Madison counties.
  • The Madison County Mass Transit District, subject to appropriation to the Ill. Dept. of Transportation, receives 0.6 percent of the 20 percent local share of the State’s use taxes.

Motor fuel tax

After accounting for administrative costs and allocating revenues to several funds, such as $3.5 million for grade crossing, 54.4 percent is distributed to local governments as follows:

  • 1 percent to municipalities
  • 74 percent to counties with 1,000,000 or more residents (Cook County)
  • 27 percent to all other counties
  • 89 percent to road districts (townships)

Replacement Taxes

In 1979, the Personal Property Tax Replacement Income Tax was enacted. This tax is imposed on the income of corporations (other than S corporations) at the rate of 2.85 percent until Dec. 31, 1980, after which the rate became 2.5 percent. The income of partnerships, trusts and S corporations is taxed at the rate of 1.5 percent.

In addition to the income tax component, regulated utilities (i.e. gas, water) are taxed at 0.8 percent of invested capital, electric utilities based on distribution and telecommunications based on gross charges.

Net collections from these taxes are distributed as follows:

  • 65 percent is distributed to Cook County taxing districts, which is then distributed to the taxing districts in the county on the basis of each district’s share of personal property tax collection for the 1976 tax year.
  • 35 percent is distributed to taxing bodies in downstate counties, which is distributed based on each district’s share of personal property tax collection for the 1977 tax year.

Charitable Games Tax

One-third of the revenues received from the operator license fees and the 3 percent tax on gross proceeds of charitable games is distributed for law enforcement purposes to municipalities and counties annually in proportion to the number of licenses issued in each municipality or county.

Pull Tab and Jar Games Tax

One-third of the revenues received from the operator license fees and the 5 percent tax on gross proceeds of pull tabs and jar games is distributed for law enforcement purposes to municipalities and counties annually in proportion to the number of licenses issued in each municipality or county. 

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