Promoting State Budget Accountability Through Tax Expenditure Reporting

PDF of the full report (46pp.)

By Jason Levitis, Nicholas Johnson, and Jeremy Koulish

April 9, 2009

Related Areas of Research

Executive Summary

Each year states spend tens, maybe hundreds, of billions of dollars on “tax expenditures.”  Tax expenditures are tax credits, deductions, and exemptions that reduce state revenue.  They can include everything from poverty-reducing tax credits, to middle-class benefits, to corporate subsidies.  Tax expenditures cost state treasuries money in much the same way as direct spending for schools, health care, or road construction.  And like direct spending, tax expenditures are a tool states can use to accomplish policy goals.

There is a key difference, however, between direct spending and tax expenditures.  States typically require extensive documentation of how much direct spending they do each year, and their budget processes entail evaluation of each item.  Tax expenditures usually receive far less scrutiny.  For the most part, policymakers do not regularly examine tax expenditures, nor do states document their effectiveness the same way they do for on-budget expenditures.

This is a serious problem.  Most tax expenditures are written into the tax code and thus will continue indefinitely — regardless of how costly they may become over time — unless the legislature acts to discontinue them.  (Appropriated expenditures, by contrast, typically last only as long as the one- or two-year budget cycle.)   Without information on a particular tax expenditure’s costs and benefits, lawmakers cannot make an informed decision on whether its continuation is in the state’s interest. 

More broadly, if policymakers, the media, and the general public lack information about tax expenditures, they cannot fully participate in decisions about how to allocate state resources.  In fact, in many states the policy debate encompasses little more than half of the state’s total expenditures because expenditures made through the tax code are not part of the conversation.  

A state can address this lack of transparency by regularly publishing a tax expenditure report, also called a tax expenditure budget.  A tax expenditure report lists the state’s tax breaks and how much each one costs, along with other relevant information that helps policymakers and others evaluate them. 

If properly designed and implemented, a tax expenditure report makes tax expenditures more transparent by telling policymakers and the public how the state is spending its money and what it is accomplishing through those expenditures.  A tax expenditure report also encourages accountability by enabling policymakers and voters to evaluate individual tax expenditures and decide whether to continue them.  In addition, a tax expenditure report saves money by enabling policymakers to monitor the costs of tax expenditures and rein in their cost if necessary.

Forty-two states (counting the District of Columbia as a state) produce tax expenditure reports. [1]  Unfortunately, many of these reports have significant shortcomings that limit their usefulness:

  • Nine of the 42 states omit major taxes from their tax expenditure report, and three others fail to publish a report at least once every two years.
  • Almost every state’s report omits some essential information, such as the law that mandates a given tax expenditure or the number of households or businesses that benefit.  Some reports even omit the cost of many tax expenditures.
  • Five states fail to make their report accessible to the public through means such as posting it on the Internet.

Tax Expenditure Report Checklist

To achieve its goals of improving transparency, encouraging accountability, and saving money, a tax expenditure report should have the features listed below.

Accessibility. The report should be:

  • Published regularly.
  • Incorporated into the budget process.
  • Available on the Web.

Scope. The report should include:

  • Tax expenditures related to all taxes.
  • All tax expenditures, including those with lower costs or those benefitting few taxpayers.
  • Explicit and implicit tax expenditures.
  • Tax expenditures enacted by the state that affect local government.

Detail. The report should include:

  • The cost of the tax expenditure, using current data.
  • The cost in future years, to allow comparison with other proposed expenditures.
  • A description of the tax expenditure.
  • The relevant legal citation and year of enactment.
  • Detail on the taxpayers who benefit from the tax expenditure.
  • Separate reporting for the state and local revenue losses, where applicable.

Analysis. The report should:

  • Classify tax expenditures using the same categories as direct spending.
  • State the purpose of each tax expenditure.
  • Evaluate the extent to which that purpose has been accomplished.
  • Analyze the distribution of benefits by income level and size of business.

Some state tax expenditure reports are much better than others, but every state could improve its practices in this area.  Oregon, Minnesota, and Connecticut publish relatively comprehensive and informative reports that could serve as a model for other states.  Among the least useful reports are those issued by Arkansas, Maryland, and Rhode Island, because they omit major taxes, fail to provide cost estimates and other key information for many tax expenditures, and/or are not available online. 

Nine states fail to publish a tax expenditure report at all, meaning that citizens have no way of knowing on an ongoing basis what the state is spending or what policies it is pursuing through the tax code.  These states are:  Alabama, Alaska, Georgia, Indiana, Nevada, New Jersey, New Mexico, South Dakota, and Wyoming.

This report lays out best practices for tax expenditure reports — ways to make the reports maximally useful to policymakers and to the public.  (For a list of the features a report should contain, see the box above.)  The goal is not to eliminate tax expenditures, which are neither good policy nor bad policy per se.  Tax expenditures are one of a policymaker’s tools for achieving policy goals; like other tools, they can be put to good use or abused, and like other tools, they should be transparent and accountable.  A well-designed and well-implemented tax expenditure report can accomplish that.

Click here to view the full-text PDF of this report (46pp.)

End Notes:

[1] All of the data in this report reflect tax expenditure documents released through June 2008.

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