Additional Options for Revenue in Maryland

PDF of this report (9pp.)

By Nicholas Johnson and Michael Mazerov

October 26, 2007

Key Findings

  • Maryland’s governor has proposed a revenue package to avert or minimize budget cuts in education, health care and other areas.
  • The governor’s package might prove insufficient, or some elements such as legalized slot machines might prove unacceptable to the legislature. If so, there are additional revenue options that would be consistent with the governor’s goal of a fairer, more modern and more adequate tax system.
  • The options described in this memo would raise over $600 million per year toward financing Maryland public services.

Related Areas of Research

Executive Summary

Maryland Governor Martin O’Malley has proposed a set of new revenue options for the state. The additional revenue is needed to close a projected budget deficit and continue to finance education, health care, transportation, and other public service at current-law levels. Without the additional revenue, the state would need to reduce spending by an estimated $1.5 billion to $1.7 billion annually relative to current law and would need to forgo any expansion of services such as health coverage or new school construction. The governor’s package would raise revenue from sales taxes, personal and corporate income taxes, cigarette and gasoline taxes, and legalized slot machine gambling.

It is not clear whether all of the elements of the governor's package — such as the gambling revenue — will be acceptable to the legislature or will be enacted at the level proposed. It is also not clear whether the revenue raised by the package will be sufficient to close the entire budget gap over the next four years. (The governor's own numbers suggest that even with the new revenues, spending will slightly exceed revenues in each of the next several years, resulting in a spending-down of the state's general fund balance. If revenue collections are less than projected, a deficit could recur.)

This paper provides some additional revenue options for the governor and legislature to consider. Each of the options recommended here would advance the governor's expressed goals: making Maryland's tax system fairer, more up-to-date, and better able to pay for high-quality education, health care, transportation, and other services. This paper also suggests several changes to the governor's package that could be adopted without undermining the governor’s tax policy goals.

Taken together, these measures could add more than $600 million in annual revenue to the governor's package. They include:

  1. Expanding the sales tax to include more services. Tax experts have long questioned the equity and efficiency of levying sales tax on goods but not on most services, as Maryland does. The governor has proposed taxing four services that are currently exempt from sales tax: tanning parlors, health club membership fees, non-medical massage, and property management. Taxing additional services such as cable and satellite TV, auto repair, interior decorating, pet grooming, and country club membership, many of which are already taxed by one or more of Maryland's neighbors, could raise an additional $163 million or more.
  2. Creating a new Corporate Alternative Minimum Tax. A corporate AMT, together with the governor's proposal to close tax loopholes, would ensure that corporations doing business in Maryland contribute to the cost of public services. There are a number of ways such a tax could be structured; one recent proposal (SB 728 in 2005) was estimated to raised $169 million.
  3. Enacting a corporate "throwback rule." This would prevent Maryland corporations from creating "nowhere income" that is untaxable by any state. Under this rule, Maryland corporations’ profits would be considered taxable by Maryland if they are not taxable in any other state. Some 20 other states have such a rule. The estimated revenue gain would be $20 million.
  4. Expanding the governor’s progressive income tax proposal. The governor’s proposal to make the income tax more progressive could be altered to reduce the income levels at which families must begin paying at the new income tax rates. If the new top rates were applied to the highest-income 6 percent of Maryland households, the state could raise $90 million more than would be raised under the governor’s proposal. (The remaining 94 percent of Maryland households would be unaffected by this change.)
  5. Cutting in half the proposed income tax reduction for most Maryland taxpayers. The governor proposes to cut income taxes for the vast majority of Maryland households by $90 to $150 per household, at a substantial cost to the state. Halving the typical household’s tax cut would reduce the overall revenue loss by $134 million.
  6. Forgoing the governor’s proposal to increase the personal exemption for seniors. Most of the benefit of this proposal (about 77 percent) would go to seniors with above-average incomes. Without this change, the net revenue yield from the package would increase by $13 million.
  7. Forgoing the governor’s proposal to create twice-yearly short-term sales tax exemptions for clothing and energy-efficient appliances. Evidence suggests that such short-term exemptions do not stimulate retail sales over the long run, nor do consumers reap the full benefit of the exemption. There are also administrative and compliance costs associated with such exemptions. Without these the exemptions, the revenue yield from the governor’s package would increase by $13 million.
  8. Adding a line to the state income tax form for taxpayers to report how much they owe in use tax. This might generate $1 million.

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