October 9, 1998

Single Business Tax Revisited

Michigan’s single business tax (SBT), the state’s major levy on business, in FY 1996–97
generated more than $2.2 billion for the state. In October 1997 we published a Public Policy Advisor describing the sudden weakness of SBT collections, because at that time SBT revenue collections were running significantly below official projections. The cause of the slowdown was not clear, but we offered one likely explanation: a key legislative change in the tax that had taken effect in January 1997.

In fact, FY 1996–97 SBT revenues ultimately did come in below expectations, but in the fiscal year just ended (FY 1997–98), they regained their strength and have been running ahead of the consensus revenue forecast. (The final numbers are not in yet.) The cause of the FY 1997–98 strength, like the prior’s year’s sudden weakness, is a mystery.

Review of the Numbers

In FY 1996–97, the growth of SBT revenue collections slowed to a crawl. The exhibit compares the original official estimate of revenues to actual collections. In May 1997 the Consensus Revenue Conference (a meeting of state executive- and legislative-branch budget officials), which produces the official estimate used as the basis for the state budget, projected an annual 5.5 percent growth rate for the SBT. By fiscal year end, however, actual SBT revenues were up only 1.7 percent from the prior year, significantly below the projection. This slowdown in growth translated into an approximately $85 million revenue shortfall. We know that because of the strong growth in Michigan employment and corporate profits, the slowdown was not due to underlying economic conditions.

For FY 1997–98, the story is the opposite. The original budget forecast projected a 5.7 percent increase in SBT revenue, or about $127 million above the prior year. At the May 1998 consensus meeting, the tax’s earlier weakness convinced the meeting participants that they should lower the SBT projection to a 2.2 percent growth rate.

Since May, after months of unexplained weakness, the SBT has been showing unexplained strength. FY 1997–98 collections are up 5.3 percent from the prior year, and in the past four months alone, SBT collections averaged 11.7 percent above the previous year.

What Does It Mean?

Both FY 1996–97’s sudden SBT revenue fall and then the sudden rise in FY 1997–98 have most analysts perplexed. While stability long has been one of the major arguments that proponents have used to support the SBT, the tax recently has become quite volatile and difficult to predict. The underlying problem for state forecasters is that collections now seem less tied than before to the fundamental economic components of wages and profits. We believe legislative changes made to the tax in the last few years, while in some cases improving its fairness and efficiency, have had the unintended effect of making state budget planning more difficult.