Utah Leads Way In Preparing for Revenue Volatility

GOVERNING Magazine takes an in-depth look at Utah’s recent success in finding ways to manage the unpredictability of state budget forecasting.

Reports Liz Farmer:

A handful of states, however, are trying to get off the roller coaster and find a better way to manage their increasingly volatile revenues. Among them, Utah has taken the most systematic approach. It studies revenue swings in minute detail to gauge its exposure to risk. It started as a reaction to the dot-com stock collapse in the early 2000s. “Elected officials don’t like disappointing people,” says Utah legislative fiscal analyst Jonathan Ball, recalling the dot-com days. “We had set all these expectations about revenue numbers and then the bottom fell out and we had to go back and tell everyone it wasn’t real.”

After the dot-com debacle was over, Utah decided to create a separate budget reserve fund for public education, so that the state’s schools would be better insulated against the swings of income tax collection, the primary source of school funding. Then, in 2008, lawmakers approved a joint legislative and executive study of the state’s revenue volatility every three years. The idea was to take the temperature of the state’s income streams, spot trends or warnings and adjust policy accordingly. The analysis prompted Utah to raise funding targets for both of its reserve funds up to at least 8 percent of appropriations as its economy recovered from the recession.

The state’s 2011 volatility report found that Utah’s corporate income is by far its most volatile tax base. Studying 50 years of fiscal data, analysts noted that there were 16 years in which corporate income fell and another 16 years in which it grew by more than 15 percent. But the corporate income tax is a relatively small source of state revenue, and did not create the most serious volatility issues. The real problem was the personal income tax, which brings in nearly half the state’s total revenues and can shift in returns dramatically from year to year. And lately, those shifts were becoming more extreme. The result, the report noted, was that “the recent boom and bust cycles appear more pronounced and longer lasting than those from the 1960s and 1970s.”

After the 2011 report in Utah, one main conclusion arose: The state needed to have a codified budget reserves funding policy. It was unclear under existing law whether the funds were simply to cover forecasting errors or instead meant to supplement lost revenue in the event of a downturn. This year, lawmakers passed legislation that mapped out a rainy day fund policy. It requires fiscal analysts to notify the legislature’s appropriations committees when revenues are trending higher than usual — in other words, when there is a windfall. The legislation advises that lawmakers use windfall money to pay down debt or set it aside for future spending needs in the event of a downturn. “Because if we don’t,” says the bill’s sponsor, state Rep. Brad Wilson, “we are inclined to spend it.”