Due to Illinois beating Wis to the budget, we have a new $51 million hole

Even though our already-delayed and no-cushion state budget couldn’t afford another hit, it got one this Tuesday afternoon when a Legislative Fiscal Bureau memo revealed that Wisconsin now owes the state of Illinois nearly $51 million more for the next two years?

So how did this come out of nowhere? Because of the recently-passed Illinois budget which raised taxes to help try to stem some of their fiscal mess. But why would that affect Wisconsin? Because of the tax reciprocity deal the two states have between each other.

Basically, the two states allow residents that work in the other state to have their state of employment take out its typical amount of taxes withheld, and then one state sends money to the other to make up the difference between the two sums. In this case, the reciprocity payment between Wisconsin and Illinois is based on the difference between what Wisconsinites owe in Illinois taxes and what Illinois residents owe in Wisconsin taxes based on “personal service income.”

The LFB defines personal service income by “wages, salaries, commissions, and fees earned by an employee”, but other forms of income (mostly based on assets and business income) are not part of this reciprocity agreement.This means that the reciprocity agreement with Illinois takes two forms- the first is in the payback between states for the out-of-state employee income (which the employee never has to deal with), and the second involves sending taxes to the other state for the asset-related income.

The LFB says this makes it easier than having to file two sets of taxes and adjusting it back on a tax form.

…Without the agreement, Wisconsin residents working in Illinois would first pay taxes to Illinois and claim a credit for those taxes against the taxes owed to Wisconsin. Illinois residents working in Wisconsin would do the same, first paying taxes to Wisconsin and claiming a credit for those taxes when they pay taxes to Illinois. Without reciprocity, Wisconsin income tax collections would be lower by an amount that is approximately equal to Wisconsin’s payment to Illinois. For income other than personal service income, Wisconsin residents who earn that income in another state pay tax on that income to the other state and then claim a credit for that tax when they calculate their Wisconsin income tax.

With that in mind, the recently-approved budget in Illinois raised income tax rates from 3.25% to 4.95%, which means that Illinois now will get back even more money from the state of Wisconsin as a result of Cheeseheads going south for work.

In the Governor’s budget, Wisconsin’s income tax reciprocity payment to Illinois is estimated at $66,046,000 in 2017-18 and $67,667,000 in 2018-19. Earlier this year, this office arrived at similar amounts after reviewing the Department of Revenue’s (DOR) calculations of those estimates. This office and DOR have re-examned the reciprocity payment estimates in light of the provisions in Illinois P.A. 100-0022 increasing Illinois’ individual income tax collections in 2017-18 and arrived at similar results. The recently enacted Illinois Tax provisions are expected to increase Wisconsin’s 2018-19 reciprocity payment by an estimated $22,833,000 to $90,500,000. However, based on income tax collections for both states through June, Wisconsin’s 2017-18 reciprocity payment is now estimated to be $64,000,000, or $2,046,000 lower than the amount in the Governor’s budget. Combined, the reestimates for the two years are $20,787,000 higher than the amounts in the Governor’s budget.

The Illinois tax changes will also result in Wisconsin residents claiming larger credits for taxes paid to other states. Higher credit amounts will first occur in tax year 2017, and higher credit amounts in subsequent years will affect estimated tax payments. As a result, Wisconsin individual income tax collections are estimated to be lower by $12,900,000 in 2017-18 and $17,200,000 in 2018-19. When combined, the reciprocity and tax credit changes are estimated to adversely affect the general fund’s positon by $50,887,000 in the 2017-19 biennium.

So there you go, and now budget writers have to figure out where to find $51 million in a budget that had only $12 million of breathing room to start with. There's a sad irony here, because if Wisconsin had passed their budget on time, this would merely be an informational note that might have to lead to adjustments if revenues fell short. But because the budget is not complete, we have to adjust the 2017-19 budget to account for this $51 millon adjustment. Nice work, WisGOP!

In addition, $40 million of that increase is in year 2 of this budget, meaning that our structural deficit goes up by $80 million for the 2019-21 budget, which is $80 mil on top of the $1 billion General Fund deficit that we were already facing.

Interestingly, Wisconsin had their tax reciprocity agreement with Minnesota end in 2009 after then-Minnesota Governor Tim Pawlenty complained about Wisconsin delaying its payments (because so many more Wisconsinites work in Minnesota than the other way around). As a result, the many Twin Cities workers that commute in from St. Croix County and other parts of western Wisconsin have to file two sets of taxes, unlike Wisconsinites that work in Illinois.

Wisconsin did pay back $59.7 million owed to our neighbors to the west in 2011, but this issue of how much Wisconsin owes still lurks beneath the surface without a formal agreement with Minnesota. As a result, the Minnesota Legislature passed a bill last month using some of their surplus money to pay back state residents that have their job in Wisconsin.

Of course, a good way to reverse all of these lost revenues in reciprocity is to have jobs in Wisconsin that pay enough to have people stay here (and have out-of-staters want to work here) instead of go out of state for work. And as long as Wisconsin has the lowest weekly manufacturing wages in the Midwest, and as long as Chicago and the Twin Cities outpay Milwaukee and Madison and Green Bay/Appleton for top-level talent, this trend of Wisconsin losing funds due to tax reciprocity will continue.

And because Illinois (in particular) offers better pay and opportunities than here, the Wisconsin budget has to make a $51 million adjustment in a budget that doesn’t have $51 million to give away. Naturally, the WisGOP line that they’re trotting out is “yes, but the higher taxes in Illinois will encourage more people and businesses to come here.” You know, the same Texass-style “Open for Business” line of BS that hasn’t done a damn thing to raise our wages, competitiveness for talent, or amount of tax revenues over the last 6 years in Wisconsin.

We won’t see any effect (if there is any effect) of FIB migration for a few years anyway. In the meantime, the pre-election Christmas Tree of gimmicks that Scott Walker presented in February continues to wither, giving increasingly less room for presents. Not what we needed to see in a budget that is nearing 2 weeks overdue, and an economic outlook that doesn’t seem to be getting much better than the mediocrity we have today.