State Corporate Tax Receipts Just Crashed The Most Since The Recession

After flatlining for the past year, US income tax receipts - both at the federal government and on a state and local level - have been disappointing, and have posted a sharp drop since the start of the year, which is "sounding an alarm about the health of the US economy" in BofA's words (in addition to the countless other alarms about the health of the economy, which however are ignored due to the record stock market).

As Bank of America highlights something we warned about last September, according to the Rockefeller Institute and CBO, US federal income tax receipts have come in about 3% below expectations this year.

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Digging deeper, the disappointment was largely in personal current tax receipts, with withheld tax receipts showing little growth over the prior two-quarters. The story is a bit different for state and local governments where personal tax receipts were fairly stable, but there was a significant decline in tax receipts for corporate income.

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In fact, corporate income tax receipts fell a sharp $7bn in 1Q, the biggest drop since the recession. Since corporate income tax receipts only make up about 14% of the total, there was still a modest gain in overall state and local tax receipts. While there has been a particular weakness of late, the trend through last year was weak; according to the Rockefeller Institute, total state tax collections grew only 1.2% in FY16 (declined in real terms), the weakest performance since 2010.

In an attempt to explain away this otherwise troubling development, the CBO has proposed that the weakness in tax receipts may reflect the shift of taxpayer income into later years on the anticipation of legislation to reduce tax rates, which however is looking increasingly unlikely. Presumably, this would have the biggest effect on high income and high net-worth individuals. And this will matter for the aggregate figures as the top 1% of earners account for almost 40% of federal personal income tax receipts.

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If indeed, it is the case that high-net-worth individuals and smaller corporations are delaying payments, there would be pent-up tax receipts. As such, tax receipts should jump if and when tax reform is passed or it becomes clear it will fail. Either way, behavior should shift, leading to an increase in declarations of income. The question is over timing

A more likely explanation is that state tax collections continue to be strain from the energy sector, which pays taxes based not on non-GAAP imaginary "wishful earnings", but on hard cash, which for most companies, is still a trickle. This is confirmed by a map of tax receipts on a geographical basis which isolates the energy patch states. There is a clear pattern of weakness in energy states like Wyoming, West Virginia, Texas, Oklahoma, and North Dakota. Alaska is also heavily oil-dependent and while growth in tax receipts increased sharply, it is coming from a subdued base.

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While a modest recovery in oil prices earlier in the year may have helped, the recent decline will undoubtedly add to further pressure on state corporate tax receipts.

Why does this sharp drop in tax revenues matter? Simple: tax receipts are tracked for various reasons, most directly they influence the forecast for government spending. As BofA notes, "a slowdown in tax receipts could lead state and local governments to reduce spending or increase taxes to make ends meet."

But most importantly, economists care about tax receipts because it is one of the few unvarnished, unadjusted, and realistic data points regarding the health of the overall economy. Tax receipts are a function of income creation in the economy: a slowdown in tax receipts indicates a slowing in income creation and therefore overall economic performance. Growth in federal tax receipts trends with the growth in aggregate payrolls (aggregate hours worked x earnings), which is why the recent deterioration in federal tax receipted is especially troubling.