It is no secret that 2020 has been a challenging year for state budgets. Business closures and stay-at-home orders have caused substantial decreases in income tax and non-income tax revenues. Yet even before coronavirus caused nationwide disruption to the economy, many states were struggling financially. One such state was New Jersey.
Prior to 2020, New Jersey enacted aggressive tax changes designed to increase tax revenue from in-state businesses, resident individuals, and remote sellers. These changes included tax rate increases on corporate net income, the enactment of a millionaire’s tax, the shift to market sourcing, and the adoption of mandatory combined reporting for unitary businesses.
However, even these changes weren’t enough to withstand a blow like COVID-19. New Jersey is estimating that its budget deficit for fiscal year ending 2020 could be as high as $10 billion. At one point, the state contemplated financing general operating expenses through public debt. Public debt is still one of the levers New Jersey is using to bridge the gap in its deficit.
As part of its recently enacted state budget, New Jersey has extended the roll back of the 2.5 percent corporate net income tax surcharge and increased taxes on individuals subject to the New Jersey Gross Income tax, and still plans on borrowing approximately $4.9 billion to fund state operations. The 2.5 percent surtax on businesses whose New Jersey income exceeds $1 million has been extended through 12/31/2023. The surtax was originally intended to sunset on 12/31/2021, and prior legislation had reduced the surtax rate to 1.5 percent for tax years beginning on or after 1/1/2020. Accordingly, businesses with over $1 million in corporate net income are subject to the 2.5 percent surtax for 2020.
Further, the threshold for the imposition of the millionaire’s tax has been lowered from income over $5 million to income over $1 million. As of 1/1/2020, individuals subject to the New Jersey Gross Income Tax and earning more than $1 million are subject to tax at the rate of 10.75 percent.
Even with these rate increases and an expansion of the income base for the millionaire’s tax, New Jersey still needs to borrow a significant amount of money to fund its budget. Clearly, New Jersey recognizes that it cannot raise all of the revenue needed for FY 2020-2021 through the expansion of the tax base or tax rate increases alone and has opted for a hybrid approach of tax and debt to fund the deficit.
New Jersey is representative of what most states have encountered with regard to fiscal operations for the year ending 6/30/2020. Some states may have deficits that are smaller, while others will experience substantially larger deficits. In the end, many will likely need to adopt similar approaches to funding state operations.
I believe that we will begin to see states enacting broader tax measures to raise the revenue needed to fund operating expenses. Depending on the severity of the state budget deficit and the respective industries relied upon to produce the revenue necessary to fund operations, it is likely that businesses and individuals could see not only higher tax rates, but also new taxes. For example, states that rely heavily on the tourism industry, and the sales tax they generate, will likely take longer to experience an economic rebound and may have to rely upon new taxes to generate needed revenue.
We will continue to keep you posted as new state and local tax developments arise, but in the meantime, it seems fair to say that given the cash crunch most states are facing, take steps now to prepare for a larger tax bill on the horizon.
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