The core principle is that an effective limit should reflect the average taxpayer’s ability to pay for the budget.
Introduction
The rewards of Iowa’s leadership in fiscal conservatism become more evident every year. Using a sustainable budgeting approach, the state has put its burdensome personal income taxes on a steady path of rate cuts. This proven pro-growth approach has worked over the last few years to increase opportunities for Iowans to flourish. While continuing to improve its economic situation, Iowa cannot rest on its laurels but must continue to press forward limiting government spending, reducing taxes, and cutting regulations. The twenty-two other states that have also cut income taxes over the last three years have increased fiscal competitiveness among states in America’s system of federalism.
Iowa forecasts a $2.1 billion surplus at the end of fiscal year 2024, leaving more revenue available for 2025.[1] This expectation represents an increase from the $1.83 billion surplus of 2023 and the $1.9 billion surplus of 2022. What’s more, the 2023 surplus was $86.3 million higher than originally projected, and time will tell whether that trend continues into 2024. Regardless, Iowa should have $961.9 million in reserve funds for 2024, which is the statutory maximum. Finally, the Taxpayer Relief Fund is set to increase by $853.1 million this year, to $3.6 billion. Projections suggest the balance of this fund will increase to $3.8 billion by 2025 when the budget surplus is estimated to be $2.9 billion.
The state is flush with taxpayer money because of conservative budgeting and must continue providing substantial tax relief while maintaining and building on its success. This balance can be struck by passing a state budget well below the Iowans for Tax Relief Foundation’s (ITRF’s) 2025 Conservative Iowa Budget, which recommends a maximum threshold in general funds of $8.8 billion, based on the 4.0% rate of population growth plus inflation in Iowa over the appropriations of $8.5 billion for 2024(see Figure 1)
[1] All years are in fiscal years unless otherwise noted.
Figure 1
Furthermore, as the state has already experienced the benefits of following the Conservative Iowa Budget, legislators should put this stronger spending limit in the Iowa Constitution, or at least in statute, to uphold sound budgeting even when political will grows soft. In this way, lawmakers can ensure Iowa will be an even better place to live, raise a family, work, and start a business.
Iowa’s Economy
In 2022, Iowa’s economy was the 31st largest in the country, at $177.1 billion, with the 23rd highest inflation-adjusted (real) gross domestic product per capita, at $55,332. The median household income was the 20th highest, at $76,320. The Fraser Institute’s index of economic freedom, with reference to government spending, taxation, and labor market regulation, ranks Iowa 27th.
Table 1 compares Iowa with neighboring and other key states in terms of economic freedom, burden of government, and economic outcomes. For reference, the table includes the two largest states in the country in terms of population and economic output, each with a very different approach to economic matters: California and Texas. Two states included have no personal income taxes: South Dakota and Texas. In contrast, California has the nation's highest marginal rate. The table also includes the regionally neighboring states of Missouri, Nebraska, Wisconsin, Illinois, and Minnesota, with all ordered, left to right, from best to worst on the Fraser Institute’s economic freedom ranking.
Table 1
As the table illustrates, states with less economic freedom (i.e., California, Minnesota, and Illinois) tend to perform economically worse. Those states with more economic freedom (i.e., South Dakota, Texas, and Missouri) tend to perform economically better. Iowa’s position in the middle of the pack in terms of economic freedom and burdens of government combine with indications of motion toward the top in some of the economic variables to suggest opportunity for rapid improvement. In keeping with its mixed results on the various rankings, Iowa’s economy experienced the third worst pace of economic growth last year, at -1.5%. Clearly, the state has areas of necessary improvement, but circumstances are improving quickly in Iowa as a result of better policies. ITRF expects the trajectory of outcomes and rankings to be better in upcoming reports, as the ranking of economic freedom improved from 28th to 27th in the latest report.
To improve Iowa’s economy and make the state a more-attractive place to live, start a family, and do business, lawmakers should take steps to remove obstacles to prosperity. Two powerful actions toward that end would be improving the state’s spending limit and using surplus funds to reduce personal income taxes toward a flat rate of zero.
Recent Iowa Budget and Regulatory Reform
Governor Kim Reynolds and the Iowa Legislature continued their practice of conservative budgeting last year, with a 2024 budget of $8.5 billion, representing just a 3.8% increase from the prior year. The legislature spent only 88.25% of its estimated revenue even though the spending limitation written into Iowa code allows up to 99%.
In 2022, Iowa enacted the most-comprehensive income tax reform package in the nation. This historic legislation — the largest in state’s history — will replace the nine-bracket progressive income tax with a flat tax at a 3.9% rate, producing nearly a 60% reduction of the top rate. The corporate income tax will also gradually be reduced, until it reaches a flat 5.5%, and has already fallen from 12% to 7.1%. Iowa once had some of the highest income tax rates in the nation. This sound, pro-growth tax policy of flattening the tax code and reducing the rates will support better incentives to work, save, and invest, resulting in a more-competitive economy and more-prosperous population.
To make Iowa’s economy even more competitive, the governor has issued an executive order placing a moratorium on regulations and requiring a full review of those that exist. State agencies must review existing regulations to determine their relevance and economic impact and ensure that “existing rules — each and every one — are worth the economic cost,” as Governor Reynolds put it. “Only those that meet this standard will be reissued. The rest will be repealed. When it’s all said and done, Iowa will have a smaller, clearer, and more growth-friendly regulatory system.” Agencies have four years to complete the review process.
Additionally, during its last session, the legislature passed Governor Reynolds’s state government reform measure beginning to rein in the administrative state by streamlining government. Iowa once had 37 cabinet-level agencies, but that number has now been reduced to 16. Furthermore, the state’s Boards and Commissions Review Committee examined Iowa’s 256 boards and commissions and recommended 111 for elimination or consolidation. If the legislature approves this recommendation, it will constitute a 43% reduction in boards and commissions. All told, this state government reform is estimated to save taxpayers close to $215 million over the next four years, as detailed in Table 2.
Table 2
Need for a Stronger Spending Limit
To ensure the continuation of budgeting restraint for taxpayers, the Legislature should pass a stronger fiscal rule, known as a tax and expenditure limitation (TEL), that matches ITRF’s Conservative Iowa Budget. Most states have some form of TEL in statute or — in fewer, though preferable, cases — mandated by the state’s constitution. A strong limit can keep government spending under control, especially when fiscally conservative policymakers are absent. The core principle is that an effective limit should reflect the average taxpayer’s ability to pay for the budget, not the appropriator’s cost of providing services.
Unfortunately, Iowa’s spending limitation, although written in code, is weak compared with those of many states. Currently, the Iowa Legislature can spend up to 99% of estimated revenue. Not only should this limitation be strengthened, but any future spending limit should be placed within Iowa’s Constitution.
Colorado has shown how this principle translates into practice. In 1992, the state’s voters adopted the Taxpayer’s Bill of Rights (TABOR), a constitutional amendment that limits government spending of most general funds at the state and local levels. The provision limited any growth in spending to a maximum rate of population growth plus inflation, requiring voters’ consent to increase spending above that level. If the state realizes more revenue than the limit allows by the end of a fiscal year, the money is returned to taxpayers through “refunds.” As Colorado’s government has adjusted to the amendment, progressive lawmakers and courts have weakened the TABOR over time. While a policy of tax rate reductions would have secured the spirit of the law, the tax refunds have created an unnecessary and costly dependency on government. Nonetheless, the TABOR remains a powerful taxpayer protection that has returned billions of dollars to taxpayers.
Other states have tried to enact measures similar to the TABOR. Kurt Couchman, a senior fellow with Americans for Prosperity, argues that a “rules-based structural balance is a promising alternative.” Rather than focus on limiting spending to the rate of population growth plus inflation each year, a structural balance could focus on the following:
Each of these factors has its detractors, but “structural balance can provide both short-term policy stability and long-term fiscal responsibility,” with concentration on the growth of spending and the use of debt brakes and revenue limits. That said, the balanced budget amendment to Iowa’s constitution is likely a stronger rule than a structural balance would be. ITRF’s conclusion is that a balanced budget amendment along with a spending limit would keep to the emphasis where it should be: on excessive government spending, which the legislature controls, instead of tax revenue, which the legislature cannot ultimately dictate.
Texas is another example of a state that has implemented a strong spending cap. In 2021, its legislature codified a new spending limit, via SB 1336, that is arguably one of the strongest in the nation. The legislation had its basis in the work of the one of the authors while at the Texas Public Policy Foundation, which developed its own Conservative Texas Budget. As in Iowa, this policy successfully limited growth in Texas’s total budget over several years prior to statutory codification. The new spending limit caps all general revenue spending based on the rate of population growth and inflation, with a three-fifths vote threshold in each chamber to exceed the cap. “This change effectively puts tax relief on Texas’ permanent agenda. Policymakers can lock in tax relief by tying Texas’ future fiscal surpluses to automatic tax cuts,” wrote Michael Lucci, a senior fellow at the State Policy Network.
For effective spending and tax limitations, Matthew Mitchell, now a senior fellow at the Fraser Institute, contends that the most effective should:
Based on our research, ITRF believes a stronger limit in Iowa should cover the broadest base of the budget possible, with the maximum growth rate calculated according to population growth plus inflation, similar to the policies in Texas and Colorado. It should also require surplus funds be used to cut tax rates instead of sending Colorado-style tax refunds.
The Iowa Legislature has considered strengthening the state’s weak spending limit in the past, most recently in 2017. The Iowa Senate passed Joint Resolution 9, a constitutional amendment that would have limited the annual increase in spending from year to year to the lesser of 99% of the estimated revenue or 4% above the prior year’s revenue.
This measure failed to pass, but taxpayers deserve better constitutional protections against the unquenchable appetite for more government spending. Families and businesses across Iowa must make difficult budget decisions on a regular basis. In contrast, seldom does the government, at any level, conclude it can function with less; the demand is always for more funding. Spending limitations overcome this natural incentive. “Politicians are forced to abide by the rules that apply to every household and business in the state. In other words, they have to prioritize,” argues economist Daniel J. Mitchell.
President Calvin Coolidge regarded “a good budget as among the noblest monuments of virtue.” This sort of sound budgeting and pro-growth principle should be enshrined in Iowa’s constitution.
Historical Iowa Budget
Figure 2 shows how Iowa’s general fund appropriations have increased on an average annual basis over the period from 2013 to 2024 in comparison with the state’s population growth plus U.S. chained-Consumer Price Index (CPI) inflation. While the appropriations’ growth has been below the average rate of population growth plus inflation overall, the budget grew nearly two times faster than the benchmark in the first six years. Because budget growth remained relatively consistent, however, the difference was primarily a function of an increase in population and inflation, combined.
Figure 2
Figure 3 highlights the degree to which the current statutory spending limit has been ineffective at limiting appropriations over time and allowed too much budget growth over time. The figure also shows that the senate resolution that did not pass, SJR 9, would have been only slightly less lenient.
Figure 3
While in recent years, the governor and legislature have voluntarily restrained government spending, Figure 3 illustrates how a limit to the rate of population growth plus inflation would provide more-consistent protection for taxpayers, with a sounder budget and more opportunities for substantial tax relief. Notably, over the entire period shown, following the proposed limit would have left $2.8 billion in Iowa’s economy, giving the average family of four about $3,500 more in their pockets to spend on their own priorities.
Conservative Iowa Budget
Iowans are fortunate that — following ITRF’s introduction of the Conservative Iowa Budget in 2021 — Governor Reynolds and legislature have been budgeting more conservatively. Even as a voluntary reference, a maximum threshold has proven positive results, producing large surpluses and tax relief.
For the upcoming budget process, ITRF has set the 2025 Conservative Iowa Budget with the following:
This limit will provide opportunities for more tax relief in the upcoming budget cycle, which will help Iowa deal with the economic headwinds of bad policies out of Washington, D.C. Elevated inflation, reduced inflation-adjusted wages, and the many market corrections resulting from Congressional overspending, President Joe Biden’s overregulating, and Federal Reserve’s overprinting of money over the last three years are leaving the states to their own resources to protect Americans.
Conclusion
At the forefront of conservative budgeting, Iowa has left more money in taxpayers’ pockets through substantial tax relief that will bring a low flat tax by 2026. This process must continue so that there will be greater opportunity in the economy and toward additional income tax reform. Governor Reynolds has already suggested Iowa will not be complacent at a 3.9% income tax rate and has discussed lowering it to a flat tax rate of 2%, with a pathway to eventually eliminate the tax. Policymakers must continue along this path, for which it can leverage the Taxpayer Relief Fund as a supplement to the state’s ongoing revenue by:
Along these lines, Senator Dan Dawson, who chairs the Ways & Means Committee, introduced during the last legislative session two constitutional amendments that would serve as taxpayer protections. The first would have required a two-thirds majority vote of the legislature to increase income taxes, and the second would have constitutionally protected the Taxpayer Relief Fund for the sole purpose of income tax relief. Both amendments should be reintroduced and passed to elevate the taxpayer over the numerous special interests demanding greater spending.
Next year has the potential to be another historic year for sound fiscal policy in Iowa. The state’s fiscal foundation is strong as a result of conservative budgeting, making feasible the goals of establishing the lowest flat tax in the nation and placing it on a path toward elimination. Iowa has become the gold-standard leader for pro-growth tax reform and fiscal conservatism and serves as a model for responsible fiscal policy. A stronger spending limit will keep this title in the state while protecting the interests of taxpayers and keeping the growth of government in check.
[1] All years are in fiscal years unless otherwise noted.
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