What are the major types of taxes utilized by Rhode Island's State and local governments? As a percentage of total estimated FY 2000 State and local tax revenues, what is the percentage of tax revenue to be generated by each of these major taxes?

How have State and local tax revenues changed during the 1990s? What has been the year-to-year percentage increase (or decrease) for all State and local tax revenues from FY 1990 through FY 2000 (estimated)?

How does Rhode Island compare? How has Rhode Island's overall State and local tax burden, as measured per $1,000 of personal income, compared to the average State and local tax burden across the United States from FY 1980 through FY 1996?

Key Facts

•Over the past nine years Rhode Island State government's general revenue tax collections have increased $502.5 million (40.3%), from $1,274.4 million in FY 1992 to $1,749.9 million in FY 2000 (estimated).

•During this same period, local property tax revenues in Rhode Island increased $345.5 million (34.9%), from $990.1 million in FY 1992 to $1,335.7 million in FY 2000 (estimated).

•RIPEC estimates that 56.7% of all general revenue taxes in FY 2000 will be collected by Rhode Island State government and 43.3% will be derived from the local property tax.

•In FY 1996 property taxes comprised 42.4% of all State and local taxes in Rhode Island, the fifth highest percentage in the country.

•From 1980 through 1996, with the exception of three fiscal years, Rhode Island governments collected more taxes, measured as a percentage of personal income and per capita, than the United States average.

•As measured by the Representative Tax System, Rhode Island’s FY 1996 State and local tax effort was 17% above the national average, second highest in the country.

•For every income group, the total state and local tax burden, measured as a percentage of family income, was estimated by Citizens for Tax Justice (CTJ) to be higher in Rhode Island than it was on average across the United States.

•Based on CTJ data, on average across the United States and in Rhode Island, lower- and middle-income families pay a larger percentage of family income in state and local taxes than do upper-income households.

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Overview

State and local governments impose a variety of taxes, with the majority of states relying on three primary tax sources - property, general and selective sales, and individual income. Across the country, these three taxes constituted approximately 85.0% of all state and local tax revenues from 1980 through 1996.

During this period the relative reliance on these three taxes remained generally stable, with property taxes comprising approximately 30.0%, general and selective sales taxes generating 36.0%, and individual income taxes contributing 21.0%. All other taxes generated approximately 15.0% or less of all state and local tax revenues.

Rhode Island's reliance on the Big Three (property, sales and personal income) differs significantly from the U.S. average. As Table V-1 displays, the Ocean State relies upon property taxes to a much greater extent than most state and local governments. In fiscal year 1996 property taxes comprised 42.4% of State and local tax revenues, the fifth highest percentage in the country.

From 1980 through 1996 the percentage of all tax revenues derived from property taxes in Rhode Island ranged from a low of 37.9% in 1987 to a high of 43.2% in 1995. Property tax collections, measured as a percentage of State and local tax receipts, dipped slightly during the latter half of the 1980s, dropping below 40.0% from 1987 through 1990, but have since climbed above, and stayed above, 40.0% of State-local tax revenues.

Tax Revenues by Level of Government (State vs. local)

Rhode Island State government in FY 1996 raised approximately 57.3% of all tax revenues, while local governments in Rhode Island collected 42.7%. The average state-local split across the United States was 60.7% state and 39.3% local. In Rhode Island, 98.7% of local tax revenues were derived from the property tax, while property taxes across the U.S. comprised an average of 73.7% of local tax revenues, followed by sales taxes (15.8%) and personal income taxes (4.9%).

In FY 1996 general and selective sales taxes generated 28.9% of tax collections in Rhode Island, compared to the U.S. average of 36.1%. Individual income taxes represented 21.4%, roughly equal to the U.S. average of 21.3%. Revenue from all other taxes in Rhode Island were substantially less than the U.S. average (12.2%), making up 7.2% of total tax collections in FY 1996 and less than 10.0% every year since FY 1981.

Reviewing solely State tax revenues, Table V-2 shows that personal income tax collections in Rhode Island represented 41.2% of tax revenues in FY 1998 compared to the U.S. average of 33.9%. General sales tax collections comprised 29.5% of State tax revenues in Rhode Island compared to 32.9% across the United States, followed by selective sales tax revenues (e.g., tobacco, motor fuels, alcohol, etc.), which made up 18.9% of State tax revenues in the Ocean State and 15.0% across the country. Combined, general and selective sales taxes in Rhode Island represented 48.4% of State tax collections, closely mirroring the U.S. average of 47.9%.

A closer examination of general revenue tax collections by Rhode Island's State and local governments, displayed in Table V-3, shows that from FY 1992 through FY 2000 (estimated) the breakdown of tax collections between the State and local governments has remained relatively stable. Throughout this period, approximately 56.0% of all general revenue taxes were collected by the State and 44.0% were collected at the local level, i.e., property taxes.

During this period, the State's general revenue tax collections grew by $502.5 million, or
40.3%, from $1,247.4 million in FY 1992 to $1,749.9 million in FY 2000 (estimated). Local property tax collections increased $345.5 million, or 34.9%, from $990.1 million in FY 1992 to $1,335.7 million in FY 2000 (estimated). The increase in the State's general revenue tax collections is due primarily to growth in personal income tax revenues ($311.7 million increase, or 65.5%) and sales and use tax revenues ($215.6 million increase, or 54.9%).

Measuring Rhode Island's Overall State and Local Tax Burden

Measuring tax burdens across states is an ongoing point of discussion among policy makers, researchers and interested citizens. Central to this discussion is the manner by which a state’s "tax burden" is measured. Comparisons are often made on taxes collected per $1,000 of personal income or taxes collected per capita. Other models calculate and compare the percentage of state and local taxes paid for a range of family income levels. Listed below, and throughout this report, are a range of measurements that are often used in comparing state and local tax systems. The glossary of terms included in the Appendix includes additional details concerning the various tax measurements used throughout this document.

State and Local Taxes Per $1,000 of Personal Income and Per Capita

From 1980 through 1996, Rhode Island's State and local tax revenues have remained between $115.00 and $120.00 per $1,000 of personal income (i.e., between 11.5% and 12.0% of aggregate personal income). In only three of the past 17 years (1980 - 1996) did Rhode Island governments collect less State and local taxes, as measured per $1,000 of personal income or per capita, than the U.S. average. As Table V-4 displays, Rhode Island's 1996 rate of $114.85 per $1,000 of personal income was 1.6% higher than the U.S. figure of $112.99.

Rhode Island's State and local tax collections per capita, as was true with the U.S. average, increased each year, from $993 per person in 1980 to $2,738 in 1996 (unadjusted for inflation). In 1996 Rhode Island's total tax revenues per capita exceeded the U.S. average by $141 (4.4% higher).

Representative Tax System -Tax Capacity and Tax Effort

A third measure of aggregate tax burden, commonly referred to as the Representative Tax System (RTS), evaluates a state’s overall tax capacity and tax effort. This is done by first estimating the per capita yield that a hypothetical, uniform, representative tax system would produce in each state (tax capacity) and then comparing the hypothetical yield with the actual revenue generated (tax effort).

An index of tax capacity for FY 1996, 1994 and 1991 is displayed in Table V-5 on page 14. This table shows that Rhode Island’s tax capacity has consistently been below the national average and is significantly less than almost all other northeastern states. In FY 1996 Rhode Island had a tax capacity index of 91 (ranked 38th), compared to Connecticut’s second-ranked index score of 129 and Massachusetts’s 8th place score of 116.

While the tax capacity index measures a state’s ability to raise revenues (i.e., its overall tax wealth), the tax effort index compares the actual revenue raised by state and local governments against the amount that could be raised by using the hypothetical, uniform representative tax system discussed above. In short, tax effort measures the extent to which a state utilizes its available tax base.

Using this index, Rhode Island’s State and local tax effort in FY 1996 was 17% above the national average, second highest in the country and the highest in New England. As Table V-6 reveals, the Ocean State's index score for FY 1994 was 114 (ranked 3rd). Across New England, with the notable exception of New Hampshire, all states exhibited relatively high tax effort.

The RTS index suggests that Rhode Island has less tax capacity than most states (i.e., is less wealthy), but that State and local governments in Rhode Island generate more revenue from the available tax base than do the majority of state and local governments.

Table V-7 shows the relative tax capacity and tax effort for the six New England States for each of the three major state and local taxes (property, sales and income), as measured by the RTS. Rhode Island ranked relatively low in terms of tax capacity for all three categories, while its 4th place property tax effort ranking (63.5% above the national average) displays the Ocean State's heavy reliance on this tax source. Rhode Island's personal income tax effort in FY 1996 was estimated to be 16.7% above the U.S. average (ranked 19th), while the general sales tax effort was 19.5% below the U.S. average (ranked 35th).

Tax Burdens as a Percentage of Family Income

According to a 1995 tax incidence model prepared by the primarily labor-funded research and advocacy group Citizens for Tax Justice (CTJ), State and local taxes paid by an average Rhode Island family in the lowest 20% income bracket consumed 13.0% of family income. The top one-percent of families paid approximately 10.7% of family income in State and local taxes. For the middle 20% of households, State and local taxes were estimated to represent 10.4% of family income. These estimates exclude the Federal deductibility of state and local taxes.

Table V-8 shows that within each income bracket, the total State and local tax burden, according to CTJ, was higher in Rhode Island than it was on average across the nation. In addition, the tax burden, on average, is heavier on lower- and middle-income families than it is on upper-income households.

When the Federal offset is included (i.e., the reduction in total tax liability due to itemization and other deductions allowed by the Federal government), the total tax burden for families in the bottom income quintile was reduced by only two-tenths of one percentage point (12.8% of income). For the top one-percent of families, the estimated total tax burden dropped by 3.2 percentage points, from 10.7% to 7.5% of family income, while the estimated tax burden for middle-income families declined by one-half of one percentage point, from 10.4% to 9.9% of family income.

In a special report prepared for the Rhode Island Senate Select Commission on Tax Rate Competitiveness, CTJ updated its 1995 data for Rhode Island for tax year 1999. The revised data, as displayed in Table V-9, showed an increased burden for some income classes and a reduction for others. It should be noted, however, that the populations included in the two studies are not entirely comparable. For the 1999 update, CTJ included all tax filers and did not limit the model to non-elderly married couples, as was the case with the 1995 data. This change in methodology affects the income ranges included within each quintile and reduces the average income reported, especially for lower-income quintiles because there are more non-married and/or elderly people in this group.

Neighboring States

Both Connecticut and Massachusetts rely upon property taxes to a greater extent than the U.S. average, although to a lesser extent than Rhode Island. Massachusetts generated 33.9% of State and local tax revenues through the property tax in FY 1996, which is less than the 44.6% of total tax revenues generated through the property tax in 1980 (prior to implementation of proposition 2_, which is described in further detail in Section VII - Property Taxes, pages 45 - 76). Connecticut has also reduced its reliance on the property tax, which declined from 44.2% of State and local tax revenues in 1980 to 37.1% in 1996, although this tax still constitutes Connecticut's largest single State and local tax source. This shift from property taxes to sales and income taxes was due in large measure to Connecticut instituting a broad-based personal income tax in 1992.

Massachusetts relies more heavily on individual income tax revenues than the majority of states, with income taxes comprising 35.1% of State and local tax revenues in 1996 (ranked 3rd highest in the country). Connecticut, on the other hand, generated over 31.0% of its 1996 tax revenues from general and selective sales taxes, although reliance on this tax has declined from a high of 41.3% in 1985.

The trends in total state and local tax collections per $1,000 of personal income have been going in opposite directions in these two states. Massachusetts has significantly reduced its total tax collections per $1,000 of personal income, from a high of $139.04 in FY 1980 to an FY 1996 rate of $112.37 per $1,000 (a reduction of $26.67 or 19.2%). Connecticut, which had a rate of $105.49 in FY 1980 (8.9% below the U.S. average of $115.74), reported State and local tax collections of $120.54 per $1,000 of personal income in FY 1996 (an increase of $15.05 or 14.3% from 1980).

In terms of tax collections per capita, however, both states have exceeded the U.S. and Rhode Island averages throughout the 1980 - 1996 review period. Massachusetts, in FY 1996, collected $3,139 per person (20.1% above the U.S. average), while Connecticut's State and local tax collections per person were $3,831 (47.5% above the U.S. rate).

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Issues, Analysis and Recommendations

There are three prime issues to consider when analyzing Rhode Island's State and local tax system.

1. Does the State rely too heavily on one type of tax to generate revenue and support government programs and services?

2. Is the distribution of the tax burden among income classes fair, equitable and competitive, particularly in comparison to other states in the region? and,

3. Is Rhode Island's tax structure competitive at both the regional and national levels?

The individual tax sections that follow provide information that should be useful in beginning to answer these questions as we move Rhode Island toward a high-quality revenue system.

Development and Oversight of Tax Policy

In considering both State and local tax policy, decision-makers must not only consider the fiscal impact that tax programs may have on revenues, but they must also understand the behavioral consequences that may result from tax policy changes. In addition, policymakers must understand the potential impact on the State’s economy and private investments, the distributional burden associated with any tax change, as well as the tax policy's potential benefits. Another important dynamic of tax policy that must be considered is State-local fiscal relations. Since approximately 43.3% of State-local taxes in Rhode Island are collected by cities and towns, and more than 29.0% of State general revenues directly support municipal governments and school districts, it would be difficult to ignore local taxes when analyzing and developing State fiscal policy.

Reviewing, analyzing, monitoring and proposing tax policy is a full-time job that must be supported by professional staff and appropriate resources in both the executive and legislative branches of State government.

Recognizing this need, progress has been made to enhance the State’s tax policy review capacity. For example:

•Tax expenditure reporting legislation was enacted and the State Division of Taxation has prepared five tax expenditure reports since January 1997. These reports provide information on the estimated cost of various tax exemptions and special provisions in the Rhode Island tax code;

•Tax modeling capabilities in the State Division of Taxation are being upgraded and should enable State officials to more accurately examine tax policy alternatives;

•Analytical capabilities of the General Assembly were improved as evidenced by the legislative initiatives in developing and adopting property tax relief legislation and reviewing options that link income tax changes to job creation; and

•Development of a State and local government partnership to help keep property assessments current, and the Governor's recommendation to standardize property tax administration.

However, to maintain a high quality state revenue system, RIPEC believes additional organizational changes need to be made in the way the State researches, monitors and analyzes tax laws and policy. For example, the Division of Taxation does not have a unit devoted solely to researching, analyzing and preparing tax policy options. Unlike many states, the General Assembly does not have a committee or a sub-committee that focuses solely on taxation. Finally, the State agency responsible for overseeing property tax practices in the State lacks the tools and resources to provide information needed by State and local policy makers.

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Recommendations

To address these issues, RIPEC recommends the following steps to improve the State’s ability to address critical tax policy issues:

1. Create a Tax Policy and Research Office within the Division of Taxation. This unit would be assigned responsibilities such as collecting data to measure tax incidence, taxpayer liability by economic activity, measuring whether tax incentives are achieving their desired results, and identify tax policy issues and develop/review options. The unit could also serve as a clearinghouse for information on various tax issues, and be responsible to maintain a state of the art econometric tax modeling capacity;

2. Establish a permanent sub-committee on State and Local Tax Policy within the General Assembly’s Finance Committees supported by appropriate professional staff. These sub-committees, by concentrating entirely on revenue issues, can provide more focused legislative oversight of Rhode Island’s State and local tax system. This structure could result in the General Assembly exercising in-depth and timely reviews of the economic and social consequences of existing and proposed tax policies; and

3. Enhance the Department of Administration’s Office of Municipal Affairs capacity to assist local officials in administering the property tax. As discussed in greater detail in Section VII, the collection and reporting of critical property-related data requires strengthening. The flow of information both within local jurisdictions and between municipalities and the State is often done manually, such as the collection of data related to sales and property tax rolls. Given the legislative changes in revaluation and the increasing demand for detailed, user-friendly data, State and local officials should design methodologies to effectively share information and take advantage of available technology. Coupling this assistance with the new revaluation cycle would not only improve the flow of information within and among State and local governments, but would improve the overall quality of information needed for a range of State aid programs and policy analysis.