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The Tax Policy Center's

Briefing Book

A citizen’s guide to the fascinating (though often complex) elements of the US tax system.

Tax Policy Center Briefing Book

The State of State (and Local) Tax Policy

  • Briefing Book
  • Fiscal Federalism and Fiscal Institutions
  • What are tax and expenditure limits?
  • Chapters
    • Introduction
      • Introduction
        • Introduction
    • Some Background
      • Federal Budget
        • What are the sources of revenue for the federal government?
        • How does the federal government spend its money?
        • What is the breakdown of revenues among federal, state, and local governments?
        • How do US taxes compare internationally?
      • Federal Budget Process
        • How does the federal budget process work?
        • What is the history of the federal budget process?
        • What is the schedule for the federal budget process?
        • What is reconciliation?
        • How is a budget resolution enforced?
        • What is PAYGO?
        • What are rescissions?
      • Federal Budget Outlook
        • How accurate are long-run budget projections?
        • What have budget trends been over the short and long term?
        • How much spending is uncontrollable?
        • What are tax extenders?
        • What options would increase federal revenues?
        • What does it mean for a government program to be off-budget?
        • How did the TCJA affect the federal budget outlook?
      • Taxes and the Economy
        • How do taxes affect the economy in the short run?
        • How do taxes affect the economy in the long run?
        • What are dynamic scoring and dynamic analysis?
        • Do tax cuts pay for themselves?
        • On what do economists agree and disagree about the effects of taxes on economic growth?
        • What are the economic effects of the Tax Cuts and Jobs Act?
      • Economic Stimulus
        • What is the role of monetary policy in alleviating economic downturns?
        • What are automatic stabilizers and how do they work?
        • What characteristics make fiscal stimulus most effective?
      • Distribution of Tax Burdens
        • How are federal taxes distributed?
        • Are federal taxes progressive?
        • How should progressivity be measured?
        • What is the difference between marginal and average tax rates?
        • What criticisms are levied against standard distributional analysis?
        • How should distributional tables be interpreted?
        • Who bears the burden of the corporate income tax?
        • Who bears the burden of federal excise taxes?
        • How do financing methods affect the distributional analyses of tax cuts?
        • How do taxes affect income inequality?
      • Tax Expenditures
        • What are tax expenditures and how are they structured?
        • What is the tax expenditure budget?
        • Why are tax expenditures controversial?
        • What are the largest tax expenditures?
        • How did the TCJA affect tax expenditures?
      • Tax Gap and Tax Shelters
        • What is the tax gap?
        • What does the IRS do and how can it be improved?
        • What is a tax shelter?
      • Recent History of the Tax Code
        • What did the 2008–10 tax stimulus acts do?
        • What did the American Taxpayer Relief Act of 2012 do?
        • How did the Tax Cuts and Jobs Act change personal taxes?
        • How did the Tax Cuts and Jobs Act change business taxes?
    • Key Elements of the U.S. Tax System
      • Individual Income Tax
        • What is the standard deduction?
        • What are itemized deductions and who claims them?
        • How did the TCJA change the standard deduction and itemized deductions?
        • What are personal exemptions?
        • How do federal income tax rates work?
        • What are tax credits and how do they differ from tax deductions?
        • How do phaseouts of tax provisions affect taxpayers?
      • Capital Gains and Dividends
        • How are capital gains taxed?
        • What is the effect of a lower tax rate for capital gains?
        • What is carried interest, and how is it taxed?
        • How might the taxation of capital gains be improved?
      • AMT
        • What is the AMT?
        • Who pays the AMT?
        • How much revenue does the AMT raise?
        • How did the TCJA change the AMT?
      • Taxes and the Family
        • What is the child tax credit?
        • What is the adoption tax credit?
        • What is the earned income tax credit?
        • Do all people eligible for the EITC participate?
        • How does the tax system subsidize child care expenses?
        • What are marriage penalties and bonuses?
        • How did the TCJA change taxes of families with children?
      • Taxes and the Poor
        • How does the federal tax system affect low-income households?
        • What is the difference between refundable and nonrefundable credits?
        • Can poor families benefit from the child tax credit?
        • Why do low-income families use tax preparers?
        • How does the earned income tax credit affect poor families?
        • What are error rates for refundable credits and what causes them?
        • How do IRS audits affect low-income families?
      • Taxes and Retirement Saving
        • What kinds of tax-favored retirement arrangements are there?
        • How large are the tax expenditures for retirement saving?
        • What are defined benefit retirement plans?
        • What are defined contribution retirement plans?
        • What types of nonemployer-sponsored retirement savings accounts are available?
        • What are Roth individual retirement accounts?
        • Who uses individual retirement accounts?
        • How does the availability of tax-favored retirement saving affect national saving?
        • What’s the difference between front-loaded and back-loaded retirement accounts?
        • What is an automatic 401(k)?
        • How might low- and middle-income households be encouraged to save?
      • Taxes and Charitable Giving
        • What is the tax treatment of charitable contributions?
        • What entities are tax-exempt?
        • Who benefits from the deduction for charitable contributions?
        • How would various proposals affect incentives for charitable giving?
        • How large are individual income tax incentives for charitable giving?
        • How did the TCJA affect incentives for charitable giving?
      • Taxes and Health Care
        • How much does the federal government spend on health care?
        • Who has health insurance coverage?
        • Which tax provisions subsidize the cost of health care?
        • How does the tax exclusion for employer-sponsored health insurance work?
        • What are premium tax credits?
        • What tax changes did the Affordable Care Act make?
        • How do health savings accounts work?
        • How do flexible spending accounts for health care expenses work?
        • What are health reimbursement arrangements and how do they work?
        • How might the tax exclusion for employer-sponsored health insurance (ESI) be reformed?
      • Taxes and Homeownership
        • What are the tax benefits of homeownership?
        • Do existing tax incentives increase homeownership?
      • Taxes and Education
        • What tax incentives exist for higher education?
        • What tax incentives exist to help families pay for college?
        • What tax incentives exist to help families save for education expenses?
        • What is the tax treatment of college and university endowments?
      • Tax Complexity
        • Why are taxes so complicated?
        • What are the benefits of simpler taxes?
        • What policy reforms could simplify the tax code?
      • Wealth Transfer Taxes
        • How do the estate, gift, and generation-skipping transfer taxes work?
        • Who pays the estate tax?
        • How many people pay the estate tax?
        • What is the difference between carryover basis and a step-up in basis?
        • How could we reform the estate tax?
        • What are the options for taxing wealth transfers?
        • What is an inheritance tax?
      • Payroll Taxes
        • What are the major federal payroll taxes, and how much money do they raise?
        • What is the unemployment insurance trust fund, and how is it financed?
        • What are the Social Security trust funds, and how are they financed?
        • Are the Social Security trust funds real?
        • What is the Medicare trust fund, and how is it financed?
      • Excise Taxes
        • What are the major federal excise taxes, and how much money do they raise?
        • What is the Highway Trust Fund, and how is it financed?
      • Energy and Environmental Taxes
        • What tax incentives encourage energy production from fossil fuels?
        • What tax incentives encourage alternatives to fossil fuels?
        • What is a carbon tax?
      • Business Taxes
        • How does the corporate income tax work?
        • What are pass-through businesses?
        • How are pass-through businesses taxed?
        • Is corporate income double-taxed?
      • Tax Incentives for Economic Development
        • What is the new markets tax credit, and how does it work?
        • What is the Low-Income Housing Tax Credit and how does it work?
        • What are Opportunity Zones and how do they work?
      • Taxes and Multinational Corporations
        • How does the current system of international taxation work?
        • How do US corporate income tax rates and revenues compare with other countries’?
        • What are the consequences of the new US international tax system?
        • How does the tax system affect US competitiveness?
        • How would formulary apportionment work?
        • What are inversions, and how will TCJA affect them?
        • What is a territorial tax and does the United States have one now?
        • What is the TCJA repatriation tax and how does it work?
        • What is the TCJA base erosion and anti-abuse tax and how does it work?
        • What is global intangible low-taxed income and how is it taxed under the TCJA?
        • What is foreign-derived intangible income and how is it taxed under the TCJA?
    • How Could We Improve the Federal Tax System?
      • Comprehensive Tax Reform
        • What is comprehensive tax reform?
        • What are the major options for comprehensive tax reform?
      • Broad-Based Income Tax
        • What is a broad-based income tax?
        • What would and would not be taxed under a broad-based income tax?
        • What would the tax rate be under a broad-based income tax?
      • National Retail Sales Tax
        • What is a national retail sales tax?
        • What would and would not be taxed under a national retail sales tax?
        • What would the tax rate be under a national retail sales tax?
        • What is the difference between a tax-exclusive and tax-inclusive sales tax rate?
        • Who bears the burden of a national retail sales tax?
        • Would tax evasion and avoidance be a significant problem for a national retail sales tax?
        • What would be the effect of a national retail sales tax on economic growth?
        • What transition rules would be needed for a national retail sales tax?
        • Would a national retail sales tax simplify the tax code?
        • What can state and local sales taxes tell us about a national retail sales tax?
        • What is the experience of other countries with national retail sales taxes?
        • What did the President’s Advisory Panel on Federal Tax Reform say about the national retail sales tax?
      • Value Added Tax (VAT)
        • What is a VAT?
        • How would a VAT be collected?
        • What would and would not be taxed under a VAT?
        • What would the tax rate be under a VAT?
        • What is the difference between zero rating and exempting a good in the VAT?
        • Who would bear the burden of a VAT?
        • Is the VAT a money machine?
        • How would small businesses be treated under a VAT?
        • What is the Canadian experience with a VAT?
        • Why is the VAT administratively superior to a retail sales tax?
        • What is the history of the VAT?
        • How are different consumption taxes related?
      • Other Comprehensive Tax Reforms
        • What is the flat tax?
        • What is the X-tax?
      • Recent Comprehensive Tax Reform Proposals
        • Simple, Fair, and Pro-Growth: Proposals to Fix America’s Tax System, Report of the President’s Advisory Panel on Federal Tax Reform, November 2005
        • The Moment of Truth: Report of the National Commission on Fiscal Responsibility and Reform, December 2010
        • Debt Reduction Task Force, “Restoring America’s Future,” Bipartisan Policy Center, November 2010
        • The Tax Reform Act of 2014: Fixing Our Broken Tax Code So That It Works for American Families and Job Creators, House Ways and Means Committee
        • The Graetz Competitive Tax Plan, Updated for 2015
      • Return-Free Tax Filing
        • What is return-free filing and how would it work?
        • What are the benefits of return-free filing?
        • What are the drawbacks of return-free filing?
        • How would the tax system need to change with return-free filing?
        • Who would qualify for return-free filing?
        • Would return-free filing raise taxes?
        • What was the experience with return-free filing in California?
        • What other countries use return-free filing?
    • The State of State (and Local) Tax Policy
      • State and Local Revenues
        • What are the sources of revenue for state governments?
        • What are the sources of revenue for local governments?
      • Specific State and Local Taxes
        • How do state and local individual income taxes work?
        • How do state and local sales taxes work?
        • How do state and local property taxes work?
        • How do state and local corporate income taxes work?
        • How do state estate and inheritance taxes work?
        • How do state earned income tax credits work?
        • How do state and local severance taxes work?
        • How do state and local soda taxes work?
        • How do marijuana taxes work?
      • Fiscal Federalism and Fiscal Institutions
        • How does the deduction for state and local taxes work?
        • What are municipal bonds and how are they used?
        • What types of federal grants are made to state and local governments and how do they work?
        • What are state rainy day funds, and how do they work?
        • What are tax and expenditure limits?
        • What are state balanced budget requirements and how do they work?
    • Glossary
      • Glossary
        • Glossary

What are tax and expenditure limits?

Fiscal Federalism and Fiscal Institutions

<5/6>
Q.

What are tax and expenditure limits?

A.

Tax and expenditure limits (TELs) restrict the growth of government revenues or spending by either capping them at fixed-dollar amounts or limiting their growth rate to match increases in population, inflation, personal income, or some combination of those factors. As of 2020, 33 states had at least one kind of TEL, including those states requiring a supermajority vote of the legislature to raise new taxes or revenues.

Designing Tax and expenditure limits

Spending versus revenue limits. States can limit their own revenues, appropriations, or both. Some states also limit the growth of local revenues, for example, restricting the growth of local property taxes. Appropriations and spending limits are more common than revenue limits. In 2020, 25 states imposed limits on their own government spending (figure 1). By contrast, 21 limited state revenue; 13 of these states capped both. Among states with revenue limits, 19 required a legislative supermajority (usually three-fifths or two-thirds of the legislature) to raise taxes or revenue, six limited revenue via other mechanisms, and four did both.

Mechanism. The means states use to limit spending and revenue vary considerably. The limit can be either a cap on growth or a restriction on the level, for example. The most common formula restricts expenditure growth to the pace of personal income, but some states include population and inflation growth in the formula. Other states restrict expenditures to a specific level, also often determined by a formula, such as a set percentage of personal income. Idaho, for example, limits expenditures to 5.33 percent of state personal income, thereby allowing expenditures to grow at the same rate as the economy. Another method is to restrict expenditures to a percentage of projected revenue, maintaining a cushion in case revenues fall short of projections.

Stringency. In general, constitutional provisions are more difficult to change or override than statutory TELs. By the same token, TELs imposed directly by voters rather than by legislators are more restrictive (New 2010). The most stringent revenue limits require that surplus revenue go back to taxpayers as rebates or be sequestered in rainy day funds. Oregon’s “Kicker” rebate and Colorado’s Taxpayer Bill of Rights are examples.

In some states, lawmakers can evade their TELs by imposing unfunded mandates upon, or transferring program responsibility to, local governments. Several states prohibit such actions, however and, more often, the measure of a TEL’s stringency is whether the governor or legislature can override the cap with a simple majority. Several states have what, at first glance, appear to be restrictive TELs, but require only simple legislative majorities to override (i.e., the same threshold for approving a standard budget). Fifteen states require either a legislative supermajority or a popular vote to override their spending limits, and five impose this requirement on their revenue limits. Additionally, as mentioned, 19 states stringently bind revenues by requiring a legislative supermajority to raise new taxes or revenues.

background

Most TELs emerged during the “tax revolt” of the late 1970s or the economic recession of the early 1990s. Although many of the best-known local property tax limits, such as California’s Proposition 13 and Massachusetts’s Proposition 2½, were adopted through citizen initiatives, most state TELs originated in their legislatures and limited expenditures, not revenue. As of 2015, only nine states had enacted TELs through voter initiative. New (2010) found that TELs adopted through citizen referendum were more effective than those adopted by legislatures.

Evidence on whether TELs limit state and local spending is mixed (Gordon 2008). Rueben (1996) found that laws’ details matter and that TELs requiring a legislative supermajority or popular vote to modify spending reduced state general fund expenditures by 2 percent. However, those savings were partly offset by higher local spending.

Knight (2000) found that states with both a supermajority requirement to raise taxes (a kind of revenue limit) and an additional tax or expenditure limit had lower expenditures than states with just one constraint. Poterba and Rueben (1999) found that TELs affect the costs of state borrowing in two ways: not surprisingly, spending limits lower the costs and revenue limits increase them.

The strictest tax limitations, like the original implementation of the TABOR rule in Colorado, can prevent states from saving revenues in rainy day funds to cushion against downturns. Randall and Rueben (2017) synthesized decades of research on TELs and other budgetary institutions, concluding that states should reform TELs that prevent them from saving during good times. Rueben, Randall and Boddupalli (2018) found that, during the Great Recession, states with binding revenue limits or a combination of binding revenue and expenditure limits were more responsive to deficit shocks than states with weaker rules.

PROPERTY TAX LIMITS

Property tax limits constitute a special category of revenue limit because, in most cases, they are set by state governments but apply to local governments. Only two states—New Hampshire and Vermont—do not limit property taxes. State restrictions can apply to the property, to the jurisdiction, or both. Rate limits impose maximum rates on jurisdictions (e.g., counties, municipalities, and school districts). Limits on the growth of property tax assessments are typically applied to properties.

For example, Arizona limits residential property assessment to 10 percent of a home’s value, growth in its property tax base to 5 percent annually, combined state and local tax rates for owner-occupied residences to a maximum of 1 percent of the state’s limited property value, and growth in local property tax levies to 2 percent annually plus new construction. The state also caps expenditures for most local governments.

Updated May 2020
Data Sources

Lincoln Institute of Land Policy. “State-by-State Property Tax at a Glance Visualization Tool.”

Kallen, Cody. “State Tax and Expenditure Limitations and Supermajority Requirements: New and Updated Data.” 2017-19. Washington, DC: American Enterprise Institute, September 8, 2017.

Lee, Soomi. “Do States Circumvent Constitutional Supermajority Voting Requirements to Raise Taxes?” State Politics & Policy Quarterly 18, no. 4 (September 7, 2018): 417–40.

National Association of State Budget Officers (NASBO). 2015. Budget Processes in the States. Washington, DC: NASBO.

Waisanen, Bert. 2010. “State Tax and Expenditure Limits.” Denver: National Conference of State Legislatures.

Further Reading

Brooks, Leah, Yosh Halberstam, and Justin Phillips. 2014. “Spending within Limits: Evidence from Municipal Fiscal Restraints.” Working paper. Toronto: University of Toronto.

Gordon, Tracy. 2008. “The Calculus of Constraint: A Critical Review of State Fiscal Institutions.” In Fiscal Challenges: An Interdisciplinary Approach to Budget Policy, edited by Elizabeth Garrett, Elizabeth Graddy, and Howell E. Jackson, 271–87. New York: Cambridge University Press.

Haveman, Mark, and Terry A. Sexton. 2008. “Property Tax Assessment Limits: Lessons from Thirty Years of Experience.” Cambridge, MA: Lincoln Institute of Land Policy.

Knight, Brian J. 2000. “Supermajority Voting Requirements for Tax Increases: Evidence from the States.” Journal of Public Economics 76 (1): 41–67.

McGuire, Therese J., and Kim S. Rueben. 2006. “The Colorado Revenue Limit: The Economic Effects of TABOR.” Washington, DC: Economic Policy Institute.

Mullins, Daniel R., and Bruce A. Wallin. 2004. “Tax and Expenditure Limitations: Introduction and Overview.” Public Budgeting and Finance 24 (4): 2–15.

New, Michael. 2010. “US State Tax Expenditure Limitations: A Comparative Political Analysis.” State Politics and Policy Quarterly 10 (1): 25–50.

Poterba, James M., and Kim S. Rueben. 1999. “Fiscal Rules and State Borrowing Costs: Evidence from California and Other States.” San Francisco: Public Policy Institute of California.

Randall, Megan, and Kim Rueben. 2017. “Sustainable Budgeting in the States.” Washington, DC: Urban Institute.

Rueben, Kim S. 1996. “Tax Limitations and Government Growth: The Effect of State Tax and Expenditure Limits on State and Local Government.” San Francisco: Public Policy Institute of California.

Rueben, Kim, Megan Randall, and Aravind Boddupalli. 2018. “Budget Processes and the Great Recession: How Fiscal Institutions Shape Tax and Spending Decisions.” Washington, DC: Urban Institute.

Urban-Brookings Tax Policy Center. 2018. “Building State Budgets: Effective Process and Practice.”

Watkins, Kate. 2009. “State Spending Limitations: TABOR and Referendum C.” Memorandum, July 6. Denver: Colorado Legislative Council.

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