In Michigan’s 24 cities with local income taxes, work from home restrictions this past year that are still largely in place for office workers have caused multi-million-dollar budget gaps.
The cities that have adopted local income taxes — including Grand Rapids, Walker, Muskegon, Muskegon Heights, Ionia, Benton Harbor, Big Rapids and Battle Creek — collect revenue from residents and non-residents who work in the city. Under state law, cities can’t withhold income taxes from non-residents if they weren’t working in the city.
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The budget shortfalls for cities have mounted over the past year, while local officials have no clear end in sight as the work-from-home shift is expected to play an ongoing role post-pandemic. Cities with income taxes may have to adjust for lower income tax revenues for the foreseeable future.
“Every community as they develop a budget will have to look at factors that create their revenues,” said Chris Hackbart, director of state and federal affairs for the Michigan Municipal League. “There’s no question there’s been changes in the workplace. The question is: How long term are they?”
Grand Rapids is forecasting an income tax shortfall of $15 million to $20 million in the current fiscal year that ends on June 30. Grand Rapids CFO Molly Clarin doesn’t expect income tax revenue to return to pre-pandemic levels until the 2026 fiscal year.
“It’s a loss of approximately $45 million” over the next five years, Clarin told MiBiz.
The city of Walker is forecasting a roughly $2 million shortfall from an $18 million budget this fiscal year, said Mayor Gary Carey. Its major employer affected by the office workplace closures, supercenter retailer Meijer Inc., has more than 2,000 employees at its headquarters in the city, Carey said.
“It’s not just this year that has us concerned. It’s next year as well,” Carey said, although federal CARES Act funding from last year may offset much of the loss this fiscal year.
Walker is also unique among the 24 cities with an income tax in that it has relatively low property taxes. Roughly two-thirds of the city’s budget comes from income tax revenue.
“It’s a nice spot to be in when the economy’s strong,” Carey said. “We’re building the plane while flying it, just trying to figure out what this budget will look like.”
Hackbarth said the pandemic’s hit to city budgets is twofold: While cities will lose income tax revenue from non-residents, they also can’t collect taxes on unemployment benefits, unlike the state and federal governments. He pointed to state estimates showing a shortfall of $120 million to $160 million from local income tax losses statewide. The unemployment side of the equation adds another $100 million to $110 million, amounting to a roughly $250 million hit to income tax cities, Hackbarth said.
Despite the budget concerns, local officials remain optimistic for at least short-term relief included in the federal American Rescue Plan Act. Michigan will receive $10.3 billion for the state and local governments.
An analysis by the National Conference of State Legislatures notes that local governments can use the relief funding for pandemic-related costs incurred by Dec. 31, 2024. The funding will be released in two phases: within 60 days after the stimulus bill was signed on March 11 and then after the first year. States also would have to distribute the funding to smaller towns within 30 days of receiving it.
“Those are important components as communities look to potentially bridge any economic gap,” Hackbarth said. “We saw in the Great Recession the drag that local governments had because they were hit later with property tax impacts and property valuation drops.”
In total, the stimulus bill allotted $45.6 billion for metropolitan cities and $19.5 billion for towns with fewer than 50,000 people, according to the National Conference of State Legislatures.
Grand Rapids is poised to receive about $94 million while Detroit is expected to receive about $880 million, based on a formula in the bill that accounts for population and poverty rates.
Clarin said the stimulus “will be a great help,” and noted that the city of Grand Rapids has “reasonable assurance” that the latest stimulus will offset the current fiscal year’s $15 million shortfall “and we will not have to consider cutting back city services.”
In her 2022 fiscal year budget proposal, Gov. Gretchen Whitmer also called for sending $70 million in relief for cities to offset income tax losses.
Hackbarth hopes the U.S. Treasury Department moves swiftly to avoid confusion by offering guidance on how the latest federal money is allocated and how it can be spent.
In the longer term, the Michigan Municipal League and cities with income taxes want state legislation to address the issue and ensure the state Income Tax Act “adjusts to the situation that’s going on,” Hackbarth said.
Clarin said Grand Rapids is evaluating “whether there is a possible legislative fix where your tax rate is determined from where your payroll is generated rather than from your physical location,” which could help address the non-resident withholding component.
She added that city officials are talking with local businesses about their longer-term plans to better estimate the future budget implications of working from home.
“Each of the 24 cities is a little bit different,” Hackbarth said. “But there does have to be a long-term discussion about what changes we may need to make.”