At the end of this month, 91,000 children in Arkansas will be at risk of losing child care when federal relief funds from the American Rescue Plan expire. And sometime this week, Arkansas state lawmakers will likely pass another income tax cut primarily for the wealthy, adding to the $700 million in lost ongoing revenue created by similar cuts that have passed since 2020.
This highlights the tension between public investments that create broad-based prosperity — and help all Arkansan children and families thrive — and the tax cuts whose benefits primarily accrue to the already well-off. Supporters of reducing the top income tax rates typically tout their economic benefits but can rarely show those benefits when asked. In 2021, the state legislature hired consultants to analyze the effect of cutting our top personal income tax rate from 5.9% to 5.5%. Their report estimated our state economy would grow by less than $100 million annually, or 1/100th of a percent; the legislature and then-Gov. Asa Hutchinson plowed ahead with the cuts anyway.
Since then, the top rate has been slashed from 5.5% down to 4.9%, then 4.7%. Now, Gov. Sarah Sanders and the Arkansas legislature want to cut it to 4.4%.
Lawmakers have been hesitant to use one-time revenue, like the state’s American Rescue Plan funding, for ongoing expenses. But tax cuts create an ongoing expense, too. Investments in child care directly help children and families in our state and help grow our economy. According to the U.S. Chamber of Commerce Foundation, 76% of parents in Arkansas had missed work in the prior three months due to child care issues in 2021. That causes turnover and absenteeism that cost Arkansas employers hundreds of millions each year.
Arkansas lawmakers have framed the recent tax cuts as a product of their uniquely smart fiscal decision-making and responsibility. Yet every state legislature in the country essentially discovered that same fiscal discipline at the same time. In total, 29 states and Washington, D.C., passed tax cuts in 2021, 35 states and the district cut taxes in 2022, and more than 30 states have reduced taxes in 2023. In fact, only two states haven’t passed a tax cut since 2021.
That’s because the secret Arkansas lawmakers discovered over the last few years isn’t secret at all. After a brief dip in state revenue in 2020, the generous federal response to COVID boosted state tax collections nationally above pre-pandemic projections. This infusion of federal funds led to temporary state surpluses across the nation that have enabled legislatures almost everywhere to pass permanent tax cuts.
First, let’s be clear about how this worked: The extra cash filling the treasuries of Arkansas and other states did not come straight from the federal relief bills. States and localities did receive billions in direct aid to help offset the economic costs of the pandemic and address public health needs. This helped take the pressure of unprecedented pandemic-related costs off state general budgets, but it’s not as though this funding went directly into state general revenue to create our current surpluses.
Instead, states and localities spent those federal funds on protective equipment, infrastructure and health care. That spending — combined with other federal assistance that went directly to businesses, workers and families to prevent lost wages — helped boost growth in personal income and consumer spending. The resulting increase in personal income and consumer spending boosted state revenue from income and sales taxes above pre-pandemic projections.
We can see this growth in revenue collections over time in Arkansas. Every other year, before our state legislative session begins, the Department of Finance and Administration releases an economic forecast that projects the amount of money that it predicts will be available in the upcoming fiscal years. The governor and state lawmakers then use that forecast, plus expected changes in revenue or spending during the session, to set the maximum general revenue the state can distribute — otherwise known as the state budget. In Arkansas, state law requires us to divide general fund functions into categories. “Category A” items are funded first; then, as revenue becomes available, items in Category B are funded, then Category C, and so forth until revenue runs out or all categories are fully funded.
In other words, the state crafts its budget each year based on how much tax money it expects to take in. This economic forecast was revised multiple times during 2020: First downward due to the economic disruption from the pandemic, and then back up because of the federal economic stimulus and aid.
But even after the upwards revision, the state’s forecasts remained consistently well-below our revenues. We never fully readjusted our budget to account for the enormous boost that federal COVID relief would have on economic activity (and therefore tax collections). That means state revenue has grown and grown even while our budget has essentially lost a year of growth: Arkansas’s final budget in fiscal year 2022 was lower than our final budget in fiscal year 2021 and well below what we would expect based on our pre-pandemic projections for 2020, as shown in the chart below.
The result has been massive budget surpluses, since the state is severely underestimating how much it will collect each year. That’s why the state’s surplus in fiscal year 2021 was a then-record $945 million, topped only by $1.6 billion in FY 2022 and $1.16 billion in FY 2023 (which ended in June).
The FY 2023 budget that ended this June totaled about $6 billion, which is a relatively small increase over a few years ago. The budget has not grown nearly as fast as state revenue. If one were to adjust our last pre-pandemic budget (in FY 2020) for inflation over the past few years, the FY 2023 budget should have been closer to $6.8 billion. That $800 million difference represents money the state could have spent on various needs around the state — including keeping up with inflation and rising wages in sectors such as child care and home health — but instead has largely put into tax cuts.
In the short term, based on our current surplus, we could have both increased our state budget to match inflation and absorbed the ongoing tax cuts. But these surpluses won’t last forever.
The end of the remaining American Rescue Plan funds for child care shows the need for more public investments in children and families now. Our state has a unique opportunity with our existing surplus to make an important investment in the care and well-being of our youngest Arkansans. But it’s up to the legislature to make the most of those dollars and show the families of Arkansas that state lawmakers support their needs.
Bruno Showers is state policy manager at Children’s Funding Project, a national nonprofit social impact organization that helps communities and states expand equitable opportunities for children and youth through strategic public financing. He lives in Pulaski County.