Congress must plan for states to go insolvent.

A number of states, including large ones like New Jersey, Illinois, and Ohio, could become insolvent during the next decade.

These states are burdened with underfunded pensions and other post-retirement benefits (mainly health care) that will impose a growing burden on governments as more baby boomers retire. At the same time, the states’ ability to fund these pensions will be compromised by two factors. The first is a long-term fall in the labor participation rate, requiring younger workers to bear a heavier burden of funding legacy costs. The second is a decrease in long-term growth rates, which will cause both tax revenues and returns on pension investments to fall below expectations.

Reforms are needed to restore fiscal solvency.

It is not too early for Congress and the next president to start planning for a state to go insolvent. Both the Detroit and Puerto Rico bankruptcies were preceded by years of denial in the face of inevitable facts. Given the combination of high unfunded liabilities, slow growth, deadlocked politics and, in some cases, legal barriers to reform, some states are likely beyond the point of saving. Illinois is a good bet to go first, but five or 10 states are in similar positions.

One approach is for Congress to pass legislation dealing with the specific state involved. This need not be a bailout. In fact, a bailout would be extremely unwise. It would tax states that had managed their finances responsibly, reward unions and bondholders who had enabled poor government, and eliminate any pressure to deal with the problems early. However, the legislation must contain enough financial assistance to restore both short-term liquidity (the ability to pay bills now) and long-term solvency (the ability to stay afloat). This assistance need not cost the taxpayer much. Indeed a careful combination of loan guarantees conditioned on significant structural reforms may be all that is needed. This process would resemble that followed in New York City and Washington, D.C., both of which are widely regarded as successes.

A benefit of this approach is that it allows for continued financial supervision of the state’s finances, thus maximizing the chance of overcoming barriers to reform and ensuring a return to long-term solvency.

A large problem with this approach is that it may not be able to reduce the state’s debt burden. Congress’ ability to erase debts may be limited legally to the formal bankruptcy process. Although governments may use a combination of economic and legal pressure to encourage creditors to settle their claims for less than par, it would have a much more difficult time forcing holdouts to accept losses. In such circumstances, it could be that the political and economic burdens of making all creditors whole are just too great outside of the bankruptcy process.

The odds of a state becoming unable to pay its obligations grow every year. Many state retirement plans are significantly underfunded and are unlikely to meet their investment goals over the next decade. The financial demands on state budgets will increase significantly. At some point, making a concerted effort to catch up imposes too much political pain and only delays the inevitable. When the end game happens, it usually comes as a surprise to many.

Congress can nevertheless prepare for insolvency by choosing its strategy now. The ideal solution would treat holders of unsecured debt the same as unfunded pensions, it would impose enough losses to ensure that the state regained its financial solvency, and it would condition debt relief on significant reforms. Ideally, the process would be available long before a state technically became insolvent but after it was willing to make significant reforms. Unfortunately, political resistance and unrealistically exuberant projections may prevent a state from taking advantage of any solution before insolvency.

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New Jersey Transportation Funding- key elements of Senate bill.

The New Jersey state Senate adjourned on Monday before considering any proposals related to renewing transportation funding or cutting taxes. But the Senate is back in session tomorrow, setting the stage for what is expected to be another long day of negotiations.

At the heart of a new bill that was  passed by the state Assembly early Tuesday morning  is a proposed 1 percent reduction of New Jersey’s 7 percent sales tax.The cut would be phased in, starting at 0.5 percent next year and reaching the full 1 percent in 2018. It would come as part of a broader deal to renew the state Transportation Trust Fund (TTF) for another 8 years with a 23-cent gas tax hike.

The proposal featuring the sales-tax cut that has emerged this week actually is an alternative to another bipartisan plan that came out of the state Senate earlier this month.

That plan, sponsored by Sens. Paul Sarlo (D-Bergen) and Steve Oroho (R-Sussex), also features a 23-cent gas-tax hike, but instead of a sales-tax cut it calls for phasing out New Jersey’s estate tax and making a series of other tax cuts. They include lifting state income-tax exemptions on pensions, 401(k) plans, and other sources of retirement income over the course of several years. The Sarlo-Oroho plan would cost an estimated $870 million once all the cuts were fully implemented.

The new proposal, backed by Governor Christie and Assembly Speaker Vince Prieto (D-Hudson), scraps most of the tax cuts that are included in the Sarlo-Oroho plan in exchange for the sales-tax reduction. It does, however, keep changes to retirement-income exemptions that the two senators proposed, adding another $200 million to the potential cost of the Christie-Prieto plan.

The Senate has yet to consider the proposal, but if it were to be enacted, the sales-tax cut would represent New Jersey’s first reduction of a broad-based tax since 1994. It would also come at a time when the state has been experiencing revenue problems, including a $600 million budget hole that had to be closed with a series of cuts and other adjustments just last month.

The budget impact of the proposed sales-tax cut would start out modestly at $376 million during the 2017 fiscal year. And because it is part of a broader plan that involves the gas-tax increase to shore up the TTF, the cut would initially free up roughly $350 million in sales-tax revenue that’s currently being used to prop up the deeply indebted trust fund.

Going forward, the impact of the sales-tax cut on the budget would rise to an estimated $1.6 billion once fully phased in during the 2019 fiscal year, according to the nonpartisan Office of Legislative Services. Because all of the more than $1 billion in annual revenue that would come in from the 23-cent gas-tax hike would be constitutionally dedicated to funding transportation projects,  the sales tax cut  would not be offset, leaving a gap on the state budget.

Supporters predict that gap would be closed by economic growth, but if that growth doesn’t materialize, the hole would have to be filled with spending cuts or other tax hikes since the state constitution requires a balanced budget.

Complicating the issue even further is a planned constitutional amendment, backed by Democratic legislative leaders and public-worker unions, that call’s for revenue growth to help fund a series of ramped-up state contributions to the presently underfunded public-employee pension system. If voters approve the amendment this fall, it would mandate spending on the pension payments to increase from $1.3 billion this fiscal year to over $3 billion just as the full impact of the sales tax-cut would take effect.

New Jersey’s sales tax is rooted in a 1966 law that established a 3 percent rate. That was increased to 5 percent in 1970, and to 6 percent in 1983. The rate was lifted to 7 percent in 1990 under then-Democratic Gov. Jim Florio, only to be reversed in a backlash in 1992.

Another increase restored the rate to 7 percent in 2006 under then-Democratic Gov. Jon Corzine, but only after a six-day shutdown of state government. At the same time, the range of services that are subject to the sales tax was expanded, though New Jersey still offers exemptions for clothing, groceries and necessities.

Unlike many other states, New Jersey does not allow sales taxes to be levied at the local level. In fact, specially designated Urban Enterprise Zones allow many struggling urban areas to charge a lesser rate of 3.5 percent.

Notably, sales tax collections have been on the rise; while income tax is subject to significant volatility, the sales tax has been a steady performer for the state budget over the last several years. It generated $7.5 billion in revenue during the 2010 fiscal year, and $7.8 billion during the 2011 fiscal year. Sales tax collections then steadily improved from $8 billion during the 2012 fiscal year to $8.8 billion through the 2015 fiscal year. The latest projection for the current fiscal year, which ends at midnight tomorrow, is for $9.3 billion, and Christie’s administration is forecasting a $9.6 billion haul during the 2017 fiscal year.

Nuts and Bolts of New Jersey’s Proposed 10-year, $20B Infrastructure Funding

On Friday we reported that New Jersey State lawmakers announced a bi-partisan agreement to  raise enough revenue to support a decade-long, $20 billion Transportation Trust Fund, and said their plans should be coupled with  tax cuts.

Actually,  released minutes apart in afternoon press releases and just 20 days before the trust fund ends its five-year authorization and 20 months after the state’s now-former transportation commissioner began warning of an impending “crisis” that could doom the roads and bridges New Jerseyans rely on every day a second proposal was released..

Both plans call for increasing the state’s taxes on oil companies, known as the gross petroleum product receipts tax.

Still, it was made clear the proposals would mean higher prices on the roads: The concept offered by Democratic Sen. Paul Sarlo and Republican Sen. Steve Oroho includes an increase in the petroleum taxes that, if passed onto the consumer, would mean a 23-cent increase in the state’s gas tax, to 37.5 cents per gallon.

The two lawmakers, who won support for their proposal from Assembly Majority Leader Lou Greenwald and other members of the lower house from across the state, argued the tax would still be lower than what is paid by motorists in New York and California. Oroho — the only Republican to support either measure — said it is also important to note that an estimated one-third of drivers who buy gas in New Jersey are from other states.

The other proposal, which comes from some senior Assembly Democrats, led by Speaker Vincent Prieto, is much more vague and does not say exactly how much the petroleum tax would need to be increased. It would likely be by a similar margin, given that both plans call for trust funds of the same size. The Assembly version, though, also calls for a “modernization” of how the state taxes jet fuel. Currently, jet fuel is taxed at 4 cents per gallon and only for quantities used during taxiing and takeoff.

Both of the plans announced Friday include similarly ambitious proposals for cutting taxes, notably by phasing out the estate tax, which generates some $600 million in annual revenue and is paid on inherited wealth worth more than $675,000. The Senate version would end the tax in just three years — two years faster than Sarlo and Oroho had previously called for. The Assembly measure would take four years.

Both proposals would boost the tax exemption threshold for retirement income and increase the earned income tax credit from 30 percent to 40 percent of the federal benefit.

The Assembly proposal does not include an income tax deduction for charitable contributions, one idea Republicans have been aggressively pursuing. The Sarlo and Oroho legislation would create a write-off for charitable contributions to specific organizations involved in social services. It would also allow a write-off for those who spend more than 1 percent of their income on the gas tax.

The lawmakers behind both proposals said it was critical that a new trust fund be authorized before the current one runs dry. They also said the status quo is unacceptable. After years of mismanagement, the trust fund is buried in debt and the current gas tax — not raised in more than two decades — can’t support any new construction.

Still, the plans are very similar, differing in just a few ways. There’s really only one notable difference when it comes to actual administration of the trust fund. The Prieto framework calls for doubling transportation aid to municipalities, from about $200 million to about $400 million per year. While Sarlo has previously said he wanted to do that, their plan makes no specific mention of increasing municipal aid.

Most advocates for infrastructure spending reacted positively to the proposals, saying both offer appear to offer realistic approaches to funding transportation projects for the next decade.

New Jersey Officials Close Out May with a Flourish

 

Atlantic City Bailout Bills Pass Both NJ Houses

New Jersey legislation that aims to help Atlantic City financially recover from poor gaming revenue and successful tax appeals now awaits Gov. Chris Christie’s signature, after passing both houses of the state Legislature on Thursday.

During their regular voting sessions, the New Jersey Senate and Assembly approved a pair of bills that would give city officials 150 days come up with a financial plan to avoid bankruptcy and would create a tax deferral arrangement for casinos.

The two Senate bills evolved from Senate and Assembly proposals that had been merged and advanced Monday by the Assembly Judiciary Committee, giving rise to new bailout legislation that leaves collective bargaining agreements intact and gives officials of the struggling resort town more time to hash out its budget before state officials intervene.

The two points of contention had sparked showdowns between Assembly Speaker Vincent Prieto, D-Bergen, and Senate President Steve Sweeney, D-Gloucester, but lawmakers hailed the latest versions of the Municipal Stabilization and Recovery Act, or S1711, and the payment-in-lieu-of-taxes plan, memorialized in S1715.

The two sides had worked on a series of amendments to the Senate versions to bring them in line with the Assembly’s vision. For example, casinos are not allowed to opt out of the PILOT program, and the Municipal Stabilization and Recovery Act — formerly known as the “state takeover” bill, before Prieto and unions decried the stripping of the city’s autonomy — now extends early retirement incentives to all full-time employees to save money.

The Municipal Stabilization and Recovery Act won 32-5 approval in the Senate and 60-12 passage in the Assembly. The PILOT bill got 33-4 approval in the Senate and 61-12 passage in the Assembly.

Twelve casinos had made up 70 percent of annual property taxes in Atlantic City as of 2013. But competition from surrounding states and other factors have left the city with eight operating casinos, after four closed in 2014, and a tax base that dropped from $20.5 billion in 2010 to $7.3 billion in 2015.

The dire situation prompted Christie in January 2015 to tap an emergency manager for the resort town, after which Moody’s Investors Service slashed the municipality’s bond rating.

The pressure to come up with a plan to avoid insolvency reached fever pitch in recent months as city officials braced for a shutdown and battled legal wars.

Previously, the state Department of Education sued the town to ensure its school district got its share of taxes, although a state court judge last month declined to freeze the city’s assets. Compounding the fiscal woes are $240 million the city allegedly owes to bondholders and $150 million for successful tax appeal, including $88 million allegedly owed to Borgata Hotel Casino & Spa.

Prieto and Sweeney locked horns again earlier this month, when Prieto said the Assembly was not going to consider the Senate’s state takeover, which was the only plan Christie had said he would endorse to fix the resort town.

NJ Assembly Passes $15 Minimum Wage Bill

The New Jersey Assembly on Thursday advanced legislation that would gradually boost the minimum wage to $15 an hour in phased increases over the next five years, an initiative touted by the chamber’s Democratic leaders as a tool to help reverse the trend of poverty in the state.

Unveiled in February, the bill previously passed the Assembly Labor Committee and now sits before the Senate after its 42-30-1 passage Thursday. The legislation heeds the call of the nationwide Fight for $15 movement and its advancement comes a month after New York and California signed the initiative into law.

Assembly Bill 15 would increase the state’s current base hourly rate of $8.38 to $10.10 at the start of next year and make incremental boosts annually from 2018 to 2021 until the minimum wage is $15

Stating their case for the proposal’s importance in the Garden State, the bill’s primary sponsors cited Legal Services of New Jersey’s estimates that the state is home to 2.8 million adults and 800,000 children living in poverty as of 2014, marking a 40 percent increase in the poor population since the recession of 2008, according to LSNJ estimates.

The take-home pay for a full-time minimum wage worker is less than $18,000 a year in a state that has among the highest costs of living in the country, the sponsors said.

The bill’s primary backers also include Assembly Budget Chairman Gary Schaer, D-Passaic/Bergen, and Assemblywoman Cleopatra Tucker, D-Essex.

An identical Senate version of the legislation sponsored by Senate President Steve Sweeney, D-Gloucester, and Sen. Joseph Vitale, D-Middlesex, was advanced by that chamber’s Labor Committee last week.

Republican leaders have expressed opposition to the legislation. In statements issued when the Senate proposal was announced, Sen. Christopher J. Connors, Assemblyman Brian E. Rumpf and Assemblywoman DiAnne C. Gove said seniors and small businesses would be hit particularly hard while Senate Republican Leader Tom Kean said the minimum wage increase — along with pushes to mandate paid sick leave and add more flexible leave and benefit options — would make life more unaffordable for all New Jerseyans.

The Ailing Transportation Trust Fund

With a crisis in Atlantic City apparently averted, Trenton’s attention will turn — after the Memorial Day weekend — to the virtually exhausted Transportation Trust Fund.

With competing schemes to revive the fund being floated, there will be plenty to argue about. And just to keep things interesting, lawmakers will also be pushing to wrap up a new state budget by the June 30 deadline.

The trust fund pays for more than $3 billion in annual road, bridge, and rail-network improvements, with money that comes from federal matching funds and New Jersey’s 10.5-cent per-gallon tax on gasoline and the its 4-cent per-gallon tax on the gross receipts of petroleum products. Revenue from the sales tax and highway tolls also help subsidize annual state spending of about $1.6 billion under a five-year financing plan that Christie put forward in 2011.

But money from the gas tax will be enough to service only the fund’s extensive debt starting July 1.

Up for debate: whether to create a new “tax-fairness package” that makes cut in the general budget to offset a gas-tax hike that is set aside of for transportation projects.

The alternative? A pay-as-you go system that trims existing budget lines but primarily relies on an expectation of tax revenue to grow each year.

The pay-as-you-go folks, led by Sen. Jennifer Beck (R-Monmouth) dug in launching a petition drive that’s intended to push back against the bipartisan tax-fairness package, which has gained momentum in the State House in recent weeks.

Gov. Chris Christie will also have a say, and over the next month the issue will likely put to a test two of his longest-standing records. He’s yet to approve a major tax increase since he took office early in 2010, and he’s yet to be overridden by a Legislature that’s controlled by Democrats, but not with veto-proof majorities.

Many in Trenton expect the issue will eventually be resolved with a bipartisan deal that will involve hiking either the 10.5-cent tax on gasoline, the 4-cent tax on petroleum products, or some combination of increases that will affect both levies. New Jersey has the second-lowest gas tax in the nation, which was last raised in 1988.

Democrats have been working diligently behind the scenes to secure votes for a gas-tax increase – which they’ve yet to define publicly – by offering up a series of tax cuts to entice Republicans into endorsing what’s being described as a broader “tax fairness” deal. They include proposals to phase out the estate tax over five years; increase current state income tax exemptions for retirement income like pensions and annuities; create a state income tax deduction for charitable contributions; and increase the state version of the Earned Income Tax Credit.

For his part, Christie hasn’t ruled out a gas-tax increase, but he also hasn’t clearly defined what he would like to see in any deal that could win his support. When asked about the issue by a woman calling into his monthly radio show on NJ 101.5 FM radio earlier this week, Christie said he expects to hear more from lawmakers now that they’ve resolved their differences on the Atlantic City rescue.

But Beck, the Monmouth County senator, has been clear in her opposition to a gas-tax increase. She’s launched an online petition to rally opposition that a recent Quinnipiac University poll measured to be 54 percent of New Jersey’s registered voters.

As part of a trust fund renewal plan that she’s put forward, Beck introduced two bills yesterday that are designed to help free up cash in the annual budget to pay for $1.6 billion in transportation upgrades each year through the 2023 fiscal year.

One bill seeks to save about $50 million annually by consolidating several state transportation agencies like New Jersey Transit and the New Jersey Turnpike Authority. But the bulk of the new revenue would come from another, more controversial measure that would reduce healthcare benefits for public workers at all levels and then repurpose most of the savings for transportation projects.

Beck’s plan is also relying on some new borrowing and at least 3 percent growth in annual revenues. She would also raise additional funds by increasing motor-vehicle fines and diverting more money from the state’s Clean Energy Fund.

Her efforts drew support from the New Jersey chapter of the conservative Americans for Prosperity organization, which has been making phone calls to stoke grassroots opposition to a gas-tax hike.

But transportation advocates and public-worker unions criticized Beck’s proposal yesterday, questioning whether her revenue sources and forecasts are realistic.

Projections for 3 percent annual growth over seven years comes as the Christie administration was just forced to scale back its own tax-collection forecasts by a combined $1 billion for the current budget and the fiscal year that will begin on July 1. Growth has also been slow over the last decade, with revenues up just over 6 percent, from $31.2 billion during the 2007 fiscal year to a projected $33.2 billion for the current fiscal year.

New Jersey Governor takes on Legislature’s Budget

New Jersey Gov. Chris Christie on Monday whittled down a Democrat-backed budget to $32.5 billion and rejected measures that would have hiked taxes on those earning more than $1 million as well as increasing the state’s corporate business tax.

As many expected, the governor, a Republican, signed a state budget for the new fiscal year but only after taking his line-item veto to the $34.1 billion spending plan that the Democrat-controlled Legislature approved Thursday and using absolute vetoes to sink related bills that would have instituted the income tax and corporate business tax increases.

“Rather than enacting responsible policies that will encourage and allow New Jersey’s economy and revenues to grow, the Legislature appears to be intent on inhibiting economic growth with crushing taxes,” the governor said in a message accompanying the line-item veto.

The Democrats’ plan also included a $2.25 billion contribution to the state’s pension system, which the governor nixed in favor of the $681 million payment that he previously recommended as part of a $2.4 billion reduction in contributions for fiscal years 2014 and 2015.

A judge on Wednesday refused to block Christie from cutting nearly $900 million from the pension contribution for fiscal year 2014 but declined to rule on matters related to fiscal year 2015, since the governor and lawmakers have yet to finalize a budget. The state has a constitutional deadline of July 1 to adopt a balanced budget.

Under lawmakers’ proposal, the marginal tax rate for incomes above $1 million would have increased from 8.97 to 10.75 percent for tax years 2014 through 2016, while the corporate business tax would have risen from 9 to 10.35 percent through a one-year surcharge. Those changes would have respectively generated an estimated $723 million and $389 million in revenue for the cash-strapped state.

In his veto messages, the governor said that increasing taxes on businesses and “highly productive taxpayers” would drive them out of the state.

“I strongly believe that punitively raising taxes on our already overtaxed residents and business owners is not the answer to the state’s short- and long-term fiscal challenges,” the governor said. “This bill would accomplish nothing more than to repeat the failed, irresponsible and unsustainable policies that were commonplace in Trenton for years before my administration.” (Credit AP).

The bill implementing the so-called millionaire’s tax would have also permanently increased the state earned income tax credit from 20 percent to 25 percent of the federal earned income tax credit. Christie said he supported increasing the credit but only as part of a broader plan to lower the tax burden for New Jerseyans across the board.

Also failing to secure gubernatorial approval on Monday was a measure that would have required the state to make contributions to the state’s pension systems on a quarterly basis. Such pension payments have historically been made at the end of the fiscal year.

“This bill represents an improper and unwarranted intrusion upon the long-standing executive prerogative to determine the appropriate timing of payments in order to properly match the timing of large annual expenditures with the timing of the actual receipt of state revenues,” the governor said in his veto message.

In a statement, Senate President Steve Sweeney, D-Gloucester, defended the Democrats’ budget as a “fiscally responsible plan that would have honored the state’s commitments and increased funding for critical services.” (Credit AP).

“The governor, however, has decided to continue protecting the state’s wealthiest at the expense of the middle class and working poor,” Sweeney said. “His belief in punishing the middle class is one of the reasons New Jersey’s economy continues to lag behind that of our neighbors and the nation, while working people suffer the brunt of the consequences.” (Credit AP).

By: Martin J. Milita, Jr. Esq., Sr. Director.

Please feel free to contact the author or your other Duane Morris Government Strategies LLC contact to learn more about this article and what it may mean to you.

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