CHICAGO - Illinois' expected passage of a compromise budget that doesn't extend an expiring income tax hike and relies on one-shots to avoid deep cuts won't sit well with investors or rating agencies, market participants said Wednesday.
Rating agency analysts have warned that to stabilize the state's battered credit, it must adopt a budget that deals with the expiring tax rates without reversing recent fiscal progress, including a drop in its overdue bill backlog.
Moody's Investors Service lead Illinois analyst Edward "Ted" Hampton noted the bill backlog in an interview Wednesday.
"The prospect that recent years' progress will be undone represents a negative factor for the state's credit," he said, adding that the General Assembly's failure to address the expiring tax hike "introduces an element of uncertainty" to its credit profile.
The state is rated A-minus across the board, with two rating agencies assigning a negative outlook and a Standard & Poor's assigns a "developing" outlook.
While rating agencies did not take a position on how the state should deal with the expiring tax rates, they have written positively of the impact of Quinn's proposed budget that extended the tax rates.
Hampton said the state's past use of non-recurring revenues like interfund borrowing and its delay in paying off bills to balance annual budgets contributed to its credit deterioration. The new budget version relies on those same measures.
It's expected that lawmakers will revisit the tax vote after the November general election and then revise the budget upward. The 2011 income tax hike partially expires on Jan. 1, midway through the next fiscal year.
State officials in investor meetings ahead of recent bond sales "definitely gave us the impression, without being explicit, that the income tax rates would be extended," said Howard Cure, director of municipal research at Evercore Wealth Management, LLC. Cure said it may be the case that the budget being advanced is just a "placeholder" but it only fuels "concerns when you delay important actions that were expected."
Cure added with strong general obligation repayment protections, he's less concerned about the state's ability to repay its bonds than he is about the fiscal impact on other local governments that rely on state funding and may see growing delays.
Passage of the compromise budget could also hurt Illinois' recent strides toward convincing investors its credit has stabilized and doesn't face further erosion. Illinois interest rate penalties have narrowed, first following passage of pension reforms in December and then after Quinn announced his backing for making the higher income tax rates permanent.
Yields on the state's 10-year tax-exempt paper shrunk to between 95 basis points and 110 on recent sales, down from 160 basis points on a sale in June 2013. The state has no additional borrowing plans this year although it may have a final deal late in the year.
The Illinois House passed appropriations bills on Wednesday that total about $35.7 billion, slightly up from the fiscal 2014 general fund. The level is far below Gov. Pat Quinn's proposed $38 billion general fund budget that relied on revenue from income taxes at the higher rates. But the new budget is up from a so-called "doomsday" budget with deep cuts that counted on just $34.5 billion.
The latest version of the budget was labeled a "middle-of-the-road" plan and crafted by House and Senate Democratic leaders after House Speaker Michael Madigan, D-Chicago due to a lack of support for either the tax rate extension or deep across the board cuts. Without the tax rate extension, the state will lose nearly $2 billion in revenue next year and $4 billion in fiscal 2016.
House Republicans voted against the spending bills, saying they had too little time to review the bills. The new version is expected to be voted on by the Senate before the General Assembly's scheduled adjournment on Saturday.
The budget would largely holds current funding levels steady for most state agencies despite rising costs. It relies on a one-time borrowing of $650 million from non-general funds and does not account for negotiated employee wage hikes. It delays payments for state employee group health insurance and earmarks no funds toward the state's bill backlog, which is expected to rise. Lawmakers also revised revenues estimates upward by $200 million.
The budget includes about $2.2 billion for debt service.
Illinois expects to close out fiscal 2014 next month with a $4.9 billion bill backlog, down sharply from more than a high of $9 billion a few years ago. Quinn's proposed five-year fiscal plan that relies on extending the tax rates anticipated drawing the figure down to about $2 billion.
