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GETTING STARTED ON TAX RELIEF: GOVERNOR BALDACCI'S BUDGET PROPOSAL

The Governor's budget has embedded in it a number of very important policy initiatives, including the consolidation of school districts, the outsourcing of the state's troubled Medicaid computer system, the consolidation of two agencies involved in economic development, and a constitutional amendment to lower the property tax burden.

If the rhetoric can be believed, tax relief is the highest priority for the Governor and the Legislature.

If tax relief is the goal – as it should be -- will the current proposals provide it? That will depend on whether there's the political will to set priorities, define performance measures, and then, perhaps the most difficult thing to do in politics, stay the course.

GOOD IDEAS

Consolidating School Districts: The boldest initiative in the budget proposal is the Governor's plan to consolidate the state's 152 school units into 26 regional districts. At the same time, the state formula used to reimburse local districts for system administration would be reduced from $346 per pupil to $186. The Governor predicts this initiative would save $36 million in the state budget and another $66 million in local tax dollars. Despite being one of the poorer states, Maine has the 7^th highest per pupil cost in the nation; our costs outstrip those of other rural states. On average, most states get only 61% of their resources into classrooms; Maine does better, spending 67%. But we still spend $184 million (9.2% of the total) on system and school administration. Reducing duplicative overhead at the district level – and loosening the reins of local control – is a good place to start reducing these costs.

Increasing Class Size: Maine has the 4th lowest pupil teacher ratio in the country at 12 to 1. As the state lost 16,300 pupils over the last decade, local school committees added 2,746 full-time professional employees. In other words, as student enrollment fell by 7.5%, professional employment rose by 16.5%. Notably, our next door neighbor New Hampshire achieves academic results at least on a par with Maine with a ratio of 13.5. The Governor proposed changing the state aid formula so that the state would reimburse local school districts based on target student-teacher ratios slightly higher than the current average one. This change will have very significant cost consequences, assuming local school districts respond to the proposal by reducing the number of professionals in the district. For example, if Maine's pupil teacher ratio was at the national average (15.6), we would save $161 million a year. Unfortunately, this fiscally sound budget initiative has been the first casualty of interest-group politics. The Commissioner of Education recently announced that she was withdrawing this proposal in the face of local opposition.

Walking away from Medicaid Computer Problems: Since 2001, DHHS has spent more than $50 million on its new, troubled, computer system. To protect healthcare providers, the state made $516 million in estimated payments without adequate documentation. In response to these problems, the federal government withheld $10 million earmarked for administrative overhead and may require reimbursement of some claims payments. The Governor is proposing that DHHS contract with a new vendor for a computer system adapted from another state. DHHS would also begin contracting its claims processing functions out to a fiscal agent similar to the way a business would contract for benefit management services. Thirty-two states already use fiscal agents. As with all organizations, there are certain things the organization should do for itself and other things that it should contract out to have done by others. Clearly, the Medicaid system falls into the latter category, a fact previously recognized by so many other states. While late to recognize this, the Governor has finally decided that this is one area where it makes sense to take full advantage of the expertise developed by others. READ MORE.

Expanding Managed Care: Medicaid is the largest single function of state government: $2.3 billion are spent each year, about two-thirds coming from the federal government. One in five Mainers receives Medicaid services, the 9^th highest percentage in the U.S. Maine's eligibility criteria are extremely low and the scope of covered services is high. As a result, our per capita Medicaid spending is 2^nd in the US at $1,549, 60% higher than the national average. The Governor has proposed implementing a managed care model for behavioral health services, expanding case management requirements to all adult clients, and establishing provider rates consistent with the New England average. These are good ideas and they have the potential to make the state's system more efficient. But it is hard to imagine how the Governor can realize his commitment to “managing costs (with) no reduction in eligibility, (and) no reductions in scope of services,” since those are the real cost drivers of this program.

Increasing Higher Education Funding: While we are extraordinarily generous in our welfare and social service spending, we short-change ourselves with funding for higher education. We rank 46^th for per capita tax-funded higher education spending and 44th on the percentage of general fund spending used for higher education. The Governor has proposed adding $28.2 million to the coffers of the three state institutions, a 5% increase. A community college tuition assistance program was also included in the original budget proposal to be funded by savings from K-12 class size increases.

Focusing Economic Development Efforts: A recent report by the Office of Program Evaluation and Government Accountability (“OPEGA”) looked at existing economic development programs and found that: (1) they may be inefficient and ineffective; (2) there is no clear definition for programs; (3) there is a lack of statewide coordination and oversight; (4) there are inadequate program controls; (5) performance measures are lacking; (6) there is inadequate accountability. The recent Brookings/GrowSmart Maine report also highlighted the burden of Maine's fragmented regulatory mechanisms. The Governor has proposed a merger between the Department of Economic and Community Development and the Department of Professional and Financial Regulation. The budget proposal also includes $13 million for research and development and the support of innovation clusters. This could be a good start on focusing the state's efforts. Research is clear, though, that government has limited influence on economic growth. Every effort should be made to address OPEGA's concerns – setting priorities, streamlining programs, and establishing performance measures – before moving forward.

Fully Funding the Local & Regional Efficiency Fund: Maine has six units of government (such as towns, school districts, water districts) for every 10,000 citizens. The Governor has proposed spending $2.7 million on incentives for regionalization or collaboration. Adding clear performance measures to the proposal would make it stronger.

Relieving Property Taxes: Enacted by the 122^nd Legislature, ‘LD1' put spending caps on state and local government and began moving toward state funding for 55% of the “essential programs and services” for public schools. The spending caps are actually targets that can be overridden by a simple majority vote. The Governor wants to require that 90% of the additional $178 million for state aid to local schools be used for local property tax relief. Last month, the Governor released a study showing that LD1 reduced property taxes by $65 million by slowing the annual growth rate from 5% to 1.7%. The report showed that 57% of municipalities stayed within the LD1 spending limit while 80.5% of school administrative units exceeded the limit.

Retiree Healthcare Costs: The State Controller recently reported that healthcare for retired state employees and teachers will cost $6 billion, representing the unfunded liability that the state has created through its labor agreements and statutory commitments. To put that in context, that amount is the same size as the state's entire two-year budget, the General Fund. New national accounting standards require states to report these costs as a long-term liability which could influence Maine's bond rating. The Governor has proposed creating a trust fund at the Maine State Retirement System and seeding it with $90 million from an existing insurance fund. The state could then begin a thirty-year amortization of this liability which could lower the costs, through investment earnings, to about $4 billion.

Avoiding Gimmicks: To close a budget gap, the 121^st Legislature leased the state's wholesale liquor business to a private company for ten years, forgoing that annual revenue stream. The lease was in exchange for a one-time payment which is now completely spent. The original budget adopted by the 122^nd Legislature included a plan to securitize future lottery revenues in a similar fashion to the liquor lease. Fortunately, this was later repealed in response to public opposition. Giving up future revenue is an easy way out and a bad idea. The Governor avoids such gimmicks in balancing his budget.

BAD IDEAS

Reorganizing DHHS: While we'll argue below that state government should be streamlined, the only significant department facing position cuts is DHHS where the cuts might be badly timed. The Governor has proposed eliminating a deputy commissioner, a director of special projects, and 100 computer programmers from that department. It may take two full years before the new computer system is available. In the meantime, specifications and contracts for the new system must be prepared while the old computer system limps along. When OPEGA looked at the causes for the current computer problems, it found that human resources at DHHS were strained, there were too few people knowledgeable about the computer system and federal regulations, and that contract management was a problem. Let's learn from those mistakes and be sure that there are enough knowledgeable people at DHHS to get the new computer system and fiscal agent in place. On the other hand, as soon as it's clear that the number of computer programmers can be reduced, eliminate those positions rather than re-deploy them elsewhere in state government. On a related note, once the contracted fiscal agent is in place DHHS should be subject to a top-to-bottom review of its core competencies: moving away from hands-on claims processing to contract administration will require very different skills and leadership.

Freezing Property Values: The Governor has proposed a constitutional amendment allowing towns to freeze the property value of homes at the time of sale. His proposal mirrors the Florida “Save Our Homes” program. Ideally, this plan lets homesteaders stay in their home without large tax increases as values rise on comparable properties. The appeal of this strategy is that newcomers will pay more than old-timers. In practice, though, towns will find themselves shifting the tax burden onto businesses, young families, and those who move into the state for employment. It also “traps” people in their current homes because moving means giving up the value cap from their old home. A fairer approach would be to tie the property tax ‘circuit breaker' to a percentage of one's household income lessening the burden for those who need it.

Maintaining DirigoChoice: DirigoChoice now covers about 13,000 Mainers, about a quarter of the original projected enrollment, and costs $44 million. The original funding model – a “savings offset payment,” in essence a 4% health insurance tax – has been contentious. A commission appointed by the Governor has called for $55 million in “sin taxes” to create a stable revenue stream. The taxes could include a 50 cent cigarette tax (over and above the Governor's $1 a pack increase for the General Fund), reinstituting the “snack tax,” and raising alcohol taxes. These new taxes are not in the current budget proposal. The Governor has always seen Dirigo as his legacy program, resisting calls for significant changes. This is a good time to step back; look at Maine's health care costs and needs; consider the connections among Medicaid, Dirigo, and the lack of competition in Maine's private insurance market; and come up with a better plan.

WHAT'S MISSING

Streamlining State Government: Streamlining state government would save more money than school consolidation, according to the recent Brookings study, perhaps as much as $100 million a year. There are at least five areas where Maine outspends other states:

Each inmate held in Maine's correctional system costs the state $62,200, the 2^nd highest cost in the U.S. If Maine reduced this cost to the national average, it could save more than half its total corrections budget, $79 million.
Maine spends $24 million a year on its legislature. The per capita cost of Maine's legislature is twice the national average.
With 14 campuses, administrative overhead for higher education exceeds the national average. While the additional funding noted above is laudable, Maine's higher education system needs to be subjected to the same scrutiny and performance standards as all other levels of government and government agencies.
Maine's leasing of public buildings is twice what other states spend, with a potential savings of $21 million. This is an area that appears to have grown sharply in the last few years, despite a small reduction in total state employment. This is a mis-match that needs to be investigated.
The pre-school special education program for 3-5 year olds is operated by the state and based at county-level sites, each with its own space and administration. Including this program in any consolidation of school districts would improve the quality of the program and eliminate the administrative overhead.

Connecting the Dots on Tax Relief: While school consolidation, increased funding for LD1, and other budget proposals have the potential to provide property tax relief, the connection isn't as strong as it should be. Local control leads to inevitable slippage between the state's intention for earmarked funds and local action. The need to reform Maine's tax system and reduce the tax burden needs more attention. Among the ideas under consideration by the legislature:

Lodging tax. The Brookings report proposed an increase in the state's lodging tax as a way to export some of the tax burden. Maine's lodging tax is low compared with our neighboring states and other competitors for tourist dollars.
Cigarette tax. At $2 dollars a pack, Maine has one of the highest cigarette tax rates in the country. The Governor has proposed an additional dollar per pack. The Dirigo commission proposed 50 cents per pack. Legislative leadership has said that there is not enough support for this increase, but finding $132 million to avoid it will be a real challenge.
Personal income tax rates and brackets. While property taxes have received the most attention, Maine's high personal income tax rate remains a serious problem. Reducing the top rate from 8.5% to 8.0% would cost the state $40 million in revenue.
Non-tax revenue. Compared to other states, Maine under-utilizes user fees and other non-tax revenue sources. We rank 14^th in the U.S. for per capita tax revenue and 38^th for per capita non-tax revenue. Shifting some of the tax burden to non-tax sources should be part of the debate.
Targeted tax relief. Maine's homestead exemption, property tax circuit breaker and other targeted programs work well despite their limitations. Expansion of these programs could provide relief for Maine's poorest citizens. In fact, one prominent tax economist recently noted that it could be less expensive and more effective to provide tax relief to Maine's poor than to continue to tax them to pay for increased social services.

The debate about taxes and spending has turned a corner. Pressure for tax relief, an aging population, and an under-performing economy have focused attention on our priorities, the efficiency and effectiveness of our government, and the need to make tough choices. The Governor's budget includes a number of important initiatives to move us in the right direction, but overlooks other areas where critical choices today could yield major dividends tomorrow.

Download a copy of this memo.

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