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The cloud on states' horizon

Government begins again this week, not just in scandal-plagued Washington, but in the 50 state capitals. In all but a few, there's never been a better time to be a governor or state legislator. They should enjoy it. It may not last.

At the moment, state governments are rolling in money. A compilation released last week by the National Governors' Association and the National Association of State Budget Officers said budget surpluses in fiscal 1999 are projected at $31-billion. That's 7 percent of budgeted expenditures, almost twice the surplus percentage in the federal budget.

Not everyone is smiling. Hawaii is stuck in the Asian economic malaise. Alaska has seen its oil revenues dwindle. Both have had to cut their budgets. But in the other 48, it's mostly a question of the rich and the richer.

Most governors running for re-election in November could brag of cutting taxes and boosting spending for education, roads and local property tax relief. Two-thirds of the states cut taxes last year. That makes for contented voters and smiling officeholders.

At the same time, almost all state employees are getting raises, averaging almost 4 percent. New classrooms are being built and, with welfare rolls down dramatically, recipients are often getting more help to make them employable.

It is such a rosy picture that Raymond C. Scheppach, executive director of the National Governors' Association, seemed almost apologetic about pointing out the hazards that may lie around the next bend in the road.

They begin with the economy. This growth cycle has lasted for most of the decade, and it shows no sign of ending. But there are trouble spots: manufacturing, agriculture, mining and the oil patch are all feeling the squeeze from the Asian/South American slump.

Health care costs are rising again, driving state Medicaid spending upward. Half the Medicaid recipients are now in managed care, but the fees in those programs are climbing almost as fast as in the old fee-for-service delivery system. Long-term care is a growing burden.

Those factors are largely outside the control of governors or state legislators. But there are other threats they could avert _ or mitigate _ in these golden years, if they were inclined to do so. Unfortunately, they are not.

The sales tax, as Scheppach pointed out, provides a bit more than 40 percent of state revenues. But it is a shaky reed. By and large, it applies only to goods, not services, and it is the service sector that is really growing. Some governors have tried to expand sales taxes to services, but they have run into tough resistance from health care providers, lawyers, barbers, beauticians, etc.

The second problem is that states rarely are able to collect sales taxes on transactions conducted by mail-order firms or on the Internet. In theory, some of these transactions are subject to taxation, but enforcement is lax.

This was the subject of a big lobbying battle in Congress last year, but the best concession the states could extract was the creation of a commission to study the problem over the next 18 months.

Scheppach is gloomy about anything being done. "It is an uphill battle in Congress," he said, because there is strong resistance to slowing the growth of the Internet with taxes.

Currently, the states are losing about $4-billion a year in taxes on mail orders and Internet purchases. By 2002, Scheppach estimates, that revenue drain will grow to $15-billion or $20-billion.

But that is not the worst of it. As Main Street and mall merchants increasingly find their competition coming through the mails and cyberspace, political pressure will grow to eliminate their competitive disadvantage by scrapping the sales tax on face-to-face purchases.

Given that prospect, I asked Scheppach whether states were considering a shift away from the sales tax and toward an income tax. "Unfortunately, the trend is the other way," he said. "The sales tax seems to be more politically acceptable than the income tax." Income taxes were cut in 29 states last year, while only 19 reduced sales taxes.

Nine states have no income tax: Alaska, Florida, Nevada, New Hampshire, South Dakota, Tennessee, Texas, Washington and Wyoming. In many of the others, the rates are such that affluent families get off lightly.

This is a luxury that looks increasingly shortsighted.

David Broder is a Washington Post columnist.

Washington Post Writers Group