Coming This Spring: TABOR-Triggered Income Tax Relief in Colorado

January 6, 2020

A pleasant surprise awaits Coloradans when they file their taxes this spring: a reduced tax rate of 4.5 percent (rather than the usual flat rate of 4.63 percent) will apply to income earned in 2019. This temporary income tax rate reduction, which will be enjoyed by individuals, pass-through businesses, and corporations alike, was triggered because state tax collections exceeded the Taxpayer’s Bill of Rights (TABOR) revenue limit by $428 million in fiscal year (FY) 2019.

TABOR, enshrined in the state constitution since it was approved by voters in 1992 (but amended by a an increased “Referendum C” cap in 2005), places an annual limit on state revenue growth, capping it at the prior year level after adjusting for inflation, population growth, and any voter-approved revenue changes. Any collections above that limit, by default, are returned to taxpayers unless a majority of voters authorize the state to retain the surplus.

The Colorado Constitution does not prescribe specific refund mechanisms but instead authorizes the General Assembly to make those determinations. Under current law, TABOR surpluses can be returned to taxpayers using up to three refund mechanisms: a property tax exemption reimbursement to local governments, a “sales tax refund,” and a temporary reduction in the state’s income tax rate. The income tax rate reduction is the most difficult to trigger since it requires the largest amount of revenue.

Specifically, current law requires the first dollars of any TABOR surplus be used to reimburse local governments for forgone revenue resulting from homestead property tax credits granted to qualifying seniors and disabled veterans. If the surplus is enough to provide a full reimbursement, then any remaining revenue is used to give taxpayers a “sales tax refund” (which appears on a taxpayer’s individual income tax return and is intended to help offset sales taxes paid). However, if the TABOR surplus is enough to fully reimburse local governments for homestead credits and to reduce the state income tax rate to 4.5 percent, the rate reduction will take precedence over any sales tax refund.

This past fiscal year marks the first time since 2005 (when voters approved the income tax reduction mechanism) that a TABOR surplus has been large enough to trigger the income tax rate reduction. At 4.5 percent, Colorado’s income tax rate for tax year 2019 will be the lowest rate the state has seen since moving to a flat tax in 1987. After the forthcoming income tax reduction is distributed, less than $2 million in surplus revenue will remain, so it is uncertain whether any sales tax refund will be administered.

After receiving income tax relief this year, taxpayers may be in luck for the next couple years, as future surpluses of approximately $304 million and $367 million are projected for FY 2020 and FY 2021, respectively. If these projected surpluses come to fruition, Colorado taxpayers are on track to receive approximately $1.1 billion in TABOR-triggered tax relief in just a three-year period. Colorado’s surpluses are attributable to economic growth and to several of the federal Tax Cuts and Jobs Act’s base-broadening provisions flowing through to the state tax code. Colorado conforms to the Internal Revenue Code (IRC)’s individual and corporate income tax provisions on a rolling basis, so a preexisting taxpayer protection mechanism like TABOR prevented the state from being able to quietly pocket the additional revenue, as some states have done.

Notably, it’s fresh in Coloradans’ minds that their future TABOR refunds were in jeopardy as recently as this past November. When faced with the question of whether to allow the state to retain all future TABOR refunds, voters emphatically rejected Proposition CC, sending a strong signal that taxpayers continue to hold their Constitution’s taxpayer transparency and refund mechanisms in high regard.

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