CHICAGO — Ohio Gov. John Kasich unveiled a two-year $130.5 billion all-funds budget that proposes major tax changes — cutting income taxes and imposing new taxes on services and oil drilling — while opting into the Medicaid expansion program that is part of the new federal health care law.

The two-year general fund budget totals $63.3 billion, with 2014 spending rising 10.5% from estimated 2013 spending and 2015 spending rising just under 7% from 2014.

The spending plan taps growing lottery revenue and relies on a $3 billion plan to issue bonds backed by a new Ohio Turnpike credit.

Kasich also announced that a $500 million cash payment generated last week from a 25-year lease of the state’s liquor distribution system would be deposited into Ohio’s rainy-day fund. The deposit would boost the account to $1.9 billion and trigger an automatic taxpayer refund of $400 million.

It’s the Republican governor’s second budget since taking office in 2010, and his blueprint fulfills a campaign promise to reduce income taxes by proposing a 20% income-tax cut for residents to be phased in over three years, and a 50% cut for small businesses.

Kasich also proposed reducing the state’s sales tax to 5% from 5.5%. Together the tax cuts would add up to $1.4 billion through 2015, budget officials said.

The revenue loss would be offset in part by expanding the sales tax to apply to most services and by increasing the state’s severance tax on large oil and natural gas drillers that are part of the state’s growing oil industry that uses horizontal drilling, or “fracking.”

“All Ohioans should benefit from this natural resource that’s being extracted from Ohio,” Kasich said Monday at a media briefing on the budget.

“Virtually everything that we do in this budget, as in the last budget, is designed to create more jobs, create economic growth, and to run the government in a more efficient and effective manner,” the governor said.

The spending plan includes a $1.5 billion bonding proposal that would allow the state to issue debt backed by future revenues from the Ohio Turnpike and use proceeds to finance infrastructure projects across the state, not just near the turnpike.

The administration expects the bond proceeds will generate another $1 billion to $1.5 billion from local and federal matching funds, creating up to $3 billion in new money for long-delayed highway projects.

“The turnpike program is unique,” Kasich said. “While other states are raising taxes to pay for infrastructure, we are reducing taxes and creating 65,000 construction jobs.”

Kasich said he was so satisfied with the results of a recent $1.2 billion liquor-profit-backed bond deal, which generated a $500 million cash payment to the state, that he will urge lawmakers to quickly approve the turnpike bond transaction.

“I will be asking legislators to move with all due speed to get this done,” Kasich said. “The quicker we can move through this the more likely we are to finance this in a favorable cost-of-money environment. The longer we wait, the more risk we take on.”

The state had planned to issue the bonds in the fall, but is now hoping to head to market earlier, according to budget officials .

Kasich unveiled his budget just days after closure of the deal to lease Ohio’s lucrative liquor distribution system to a newly created jobs agency in exchange for a $500 million cash payment to the state’s general fund.

The agency, JobsOhio, sold the bonds despite legal complications from a lawsuit that challenged state law behind the debt. The state got its $500 million payment from the deal on Friday, just two days before Kasich unveiled his budget.

“JobsOhio will pay the state $500 million, so our surplus fund will grow to $1.9 billion,” Kasich said. “In a two-year period, we started out with an $8 billion deficit to a $1.9 billion surplus, triggering an automatic tax cut of $400 million — that’s good news for every taxpayer in Ohio.”

General fund revenue in 2014 is expected to total $30.7 billion, with proposed expenditures of $30.6 billion, according to budget director Tim Keen.

Revenue in 2015 is expected to total $32.8 billion, with proposed expenditures of $32.7 billion.

The spending plan would cut individual income tax by 20% over the next three years and small business income tax by 50%. 

Income tax revenue in 2014 would drop by 16% to $7.7 billion compared to 2013 and fall another 7% to $7.18 billion by 2015, according to budget documents.

Sales and use taxes would rise to $10.2 billion in 2014, a nearly 22% increase from fiscal 2013. The tax source would rise another 9.5% in 2015, to $11.2 billion. The general fund balance is estimated at $191 million by the end of fiscal 2015.

“As a result of tax reform, sales and use tax will become the largest tax source,” Keen said. “Income taxes by Ohioans will begin to contract and federal grants, because of Medicaid, will grow.”

Spending increases are driven by a $1.3 billion increase in K-12 appropriations over two years and an estimated $521 million associated with the so-called woodwork effect of the Medicaid expansion, meaning people who are already eligible but not yet enrolled in Medicaid will come out of the woodwork.

The state hopes to recoup most of that $521 million by imposing various cuts on providers who benefit from the new federal health care law, according to Greg Moody, head of the governor’s office of health transformation.

Medicaid makes up the largest program in the budget, with general fund appropriations of $15.1 billion in fiscal 2014 — a 19% increase over 2013 — and $16.8 billion in 2015, an 11.4% increase over 2014. 

Ohio will also save $235 million by expanding the program, because 90,000 people who are now covered by the program but who earn more than 138% of the federal poverty line will be taken off the rolls, according to Moody.

The state will also be able to collect sales tax on the value of the federal loans, which will flow through the managed care plans, and which are subject to sales tax, Moody noted.

Kasich said he was not a supporter of “Obamacare,” but that expanding Medicaid was the “right choice for Ohio.” He added that without it, hospitals across the state would suffer from drops in federal aid for uncompensated care.

“If we were to reject extending Medicaid, I believe that we would create financial chaos, particularly across our rural health- care delivery systems, because they would no longer be able to get reimbursed for the care that they provide,” Kasich said.

Legislators, beginning in the House, will consider the spending plan over the next several months.

The governor’s fellow Republicans control both chambers of the General Assembly, but Kasich predicted opposition on the tax changes from various groups, including the oil and gas drillers and service providers that will for the first time find themselves subject to the sales tax.

“It’s going to be a hot time in the old town tonight,” Kasich said about debate over the tax policies.

The state crafts capital budgets in even years. Its current capital budget totals $1.78 billion. Of that, $1.4 billion is to be funded by bonds, with the rest funded by various non-general fund sources, including lottery profits, according to budget documents.

Ohio has $7.8 billion of outstanding general obligation debt. Fitch Ratings, Standard & Poor’s and Moody’s Investors Service all rate it double-A-plus.

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