Seattle's Revenues: Understanding Mayor Jenny Durkan's Proposed Budget

Take a deep dive into the city's revenue sources.
 
 

See what changes Mayor Jenny Durkan is proposing on the spending side here.

This story originally ran on SCC Insight.

We tend to focus all our attention on the spending side of the city budget, but the revenue side is equally important: you need to know how much money you have to spend before you can effectively plan to spend it. Let’s take a look at the city’s revenue sources, and the bottom line.

When you talk to the city leaders about revenues, one of the first things they will tell you is the bad news: there’s a recession coming.  Since 2009 we’ve experienced one of the longest periods of sustained economic recovery that the United States has ever seen, but it’s about to come to an end. It’s worth taking a moment to look at the data that’s leading economists to this conclusion.

Employment in the US has grown annually since 2011, but the growth rate peaked in 2015 and has slowed since. The tax stimulus has given it a tiny boost in 2018, but absent new stimuli it looks to slow significantly more in the next couple of years.

Capacity utilization within the US economy has been trending back up too, soon to reach the range that precedes a recession (because it’s an upper limit on economic production).

Another key indicator of economic pessimism: more interest in short-term investments. Demand for 3-month Treasury bonds is catching up to 10-year T-bonds. When they cross over, a recession can’t be far behind.

There has also been a dramatic accumulation of debt over the past several years.

Mortgage debt too.

The stock market’s meteoric rise, as compared to the debt that the companies hold, suggests that we are pre-recession.

The accumulation of debt isn’t on its own a problem, but as we have seen in the recent past it can multiply the pain inflicted by a recession as it cascades through the financial system.

A broad set of economists believe there is significant downside risk to the current economic forecasts.

They are now predicting that a recession is imminent, with a majority believing it will begin in 2020.

The Fed believes this too — it has been slowly increasing interest rates so that it has a tool that it can use (lowering those rates) when the recession hits, and it’s predicted to continue doing so into 2020.

There is no reason to believe that Seattle, and Washington State, are immune to this. In fact, there are already plenty of signs that Seattle’s explosive growth is cooling off. Through the first three months of 2018,  the number of people moving here is much lower than in the comparable period for the past three years.

Employment growth in the Seattle metro area has also slowed and is expected to continue doing so. Of note: according to the city, Boeing cut 9900 jobs between July 2016 and September 2017, and Amazon has also slowed its local hiring in the last year.

The growth in rent in Seattle has been steadily decelerating since the middle of 2016, and for the past few months has been negative.

The total assessed value of property has skyrocketed in the city through the population and employment boom. Unfortunately, with the statewide cap on increases in property taxes (largely independent of assessed value), there isn’t a concurrent increase in property taxes (we’ll come back to that).

But the value of new building permits issued peaked last year and is now dropping, foretelling a significant downturn in the construction industry over the next couple of years. This turns out to be incredibly important, another point we will revisit in a bit.

So what does this mean for Seattle revenues? The city has over fifteen different sources of revenues, but 75% of the dollars come from just four of them: property taxes, the Business and Occupation Tax, retail sales taxes, and utilities taxes.

There isn’t too much to say about the utilities tax; it’s fairly stable, with some incremental growth as the city’s population and economy grows. The B&O tax has generally seen 6-8% annual growth over the last several years, but is expected to soften through 2020 — and could shrink in a recession, as it did in the last one..

Sales tax follows a similar pattern.

Sales and B&O tax together — representing about a third of the city’s revenue base — are expected to drop down into the 3% range, approximately the local rate of inflation. That will sustain the city’s buying power, but doesn’t increase its ability to do new things.

That leaves property tax. Property tax revenue growth is capped at below CPI, with the exception of new construction. Since the city has data on construction permits issued and construction projects underway (the graphs we looked at before), it can fairly reliably predict the value of new construction over the next few years, and what the increase in property tax revenues will be. It’s still high compared to immediately post-recession, but it’s flattened out at about $10 million per year through 2020, and will likely decline beyond that. To put that in context: this year’s budget plans for about $310 million in property taxes. So again, we’re talking about an increase of around 3% a year, right around the local inflation rate.

There’s one more revenue category worth looking at: Real Estate Excise Tax, or REET. This is a tax on all real estate transaction in the city, but the tax revenues are very limited in what they can be used for: capital investments for public safety, transportation and infrastructure, mainly. It can be a lot of money, but it’s also highly volatile: every time a big office tower changes hands the city gets a big REET check, but those deals are impossible to predict.

The city has done pretty well with REET windfalls the  past few years, and with foreknowledge of when major construction projects will complete it is making some predictions about REET revenues for the next two, but the upside isn’t huge and the downside could be dramatic.

You may have noticed that construction is a recurring theme when looking at the city’s revenues. The City Budget Office noticed this too, and has pointed out that Seattle is particularly exposed to a downturn in the construction industry. It figures that this year $155 million of city revenues from multiple sources are tied to construction. Seattle has benefited tremendously from the construction boom, as you can see below, but it’s a cyclical industry and what goes up must come down.

When we put all of this together, the city’s tax revenue growth is expected to be close to inflation for the next two years. That’s bad news for anyone who wants to launch a new program: revenues will sustain current spending, but little more.

You can see from the graph below that the vast majority of revenue growth over the past few years has been from the four big sources; everything else is pretty much pocket change, with the exception of the “other tax” category, which includes the recently-enacted sweetened-beverage tax and short-term rental tax. The sweetened-beverage tax has outperformed its original predictions; it was expected to depress consumption of sweetened beverages, but has not had that effect (and other cities such as Philadelphia have seen the same result).

So that’s the big picture. The city predicts 6% general fund revenue growth in 2019, and about 2% in 2020. Without any new revenue sources (and the Mayor hasn’t proposed any), there simply isn’t a lot of new money to spend. And the situation may get worse in 2021 and beyond if the widely-predicted recession arrives on schedule.

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