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BIENNIAL REVENUE ESTIMATE · 2010–2011

Available Revenue

The 81st Legislature will have an estimated $77.1 billion available for general purpose spending in the 2010-11 biennium, 10.5 percent below the corresponding amount estimated for 2008-09. (See Table 2.) This figure represents the sum of the 2008-09 ending balance, 2010-11 tax revenue, and 2010-11 non-tax receipts, less estimated transfers to the Economic Stabilization Fund and adjustments to general revenue-dedicated account balances.

The 2008-09 Ending Balance

The estimated ending certification balance for 2008-09 will be $2.1 billion after setting aside a required $1.1 billion transfer to the Economic Stabilization Fund (ESF).

Transfers to the Economic Stabilization Fund

Transfers from state oil production and natural gas tax collections to the ESF should total $4.0 billion over the three-year period 2009-11. As required by the Texas Constitution, estimated transfers to the ESF have been deducted from available revenues and balances. In addition to the fiscal 2009 transfer of $2.2 billion from fiscal 2008 tax collections, this estimate anticipates that an additional $1.8 billion will be transferred to the ESF in 2010-11. After the fiscal 2011 transfer, and accounting for outstanding appropriations and interest earnings, the ESF balance should reach $9.1 billion, absent any appropriations by the 81st Legislature.

Tax Revenue

The state’s tax system is the main source of General Revenue-related funding. Taxes are expected to yield $68.5 billion during the upcoming biennium, contributing 89.3 percent of total net revenues. Compared with the $70.3 billion collected in 2008-09, total General Revenue-related tax collections in 2010-11 are expected to register a 2.5 percent decrease.

Since 1988, state sales tax revenues have accounted for more than half of all state General Revenue-related tax collections. Motor vehicle sales and use taxes provide the second-largest source of general revenues, followed by the proceeds from the state’s general business tax – the franchise tax. The franchise tax is the largest state tax not levied on consumption.

Sales and Use Taxes

The state’s limited sales and use tax is levied at 6.25 percent. Subject to certain exemptions, the tax is paid by businesses and consumers for a wide range of goods and services purchased within or brought into the state. Sales and use taxes also include the boat and boat motor sales and use tax; the motor lubricant sales and use tax, which is dedicated to the State Highway Fund; and the fireworks tax, which is a surtax dedicated to the Rural Volunteer Fire Department Insurance Account.

In fiscal 2008, Texas sales and use tax receipts totaled $21.5 billion, up 6.6 percent from 2007. This increase followed gains of 12.0 and 10.9 percent in 2006 and 2007, respectively, and continued the positive growth that began after two successive years of revenue declines in 2002 (down 1.1 percent) and 2003 (down 1.7 percent).

The growth in sales tax revenues in fiscal 2008 was driven by several economic sectors. Tax receipts from construction industry sales (principally building materials) were up 14.9 percent. In addition, higher energy prices produced significant revenue increases in the mining sector, which was up 18.6 percent. Sales and use tax collections from the retail trade sector, which typically accounts for almost 50 percent of total sales tax revenue, rose by 4.5 percent in fiscal 2008.

In contrast to 2008’s strong revenue growth, sales tax revenues are projected to rise by only 0.4 percent in fiscal 2009. Loss of jobs, tighter credit, and uncertainty about the economy are all expected to keep consumers at home. Likewise, declining oil and gas prices will negatively affect sales tax collections from mining (e.g., oil and gas) activities. Finally, new home construction is expected to continue to decrease, negatively affecting not only direct construction spending, but ancillary purchases (e.g., home furnishings and appliances) as well. In fiscal 2010, sales are expected to remain relatively flat, growing by 0.5 percent. Growth will pick up in 2011, when sales tax collections are forecast to climb 4.2 percent.

For 2010-11 as a whole, sales taxes are expected to increase by 2.9 percent to $44.4 billion, compared to $43.1 billion collected in 2008-09.

TABLE 2

Franchise Tax

The state’s primary tax on business underwent extensive transformation in 2006 pursuant to HB 3 (79th Legislature, 3rd Called Session). The new franchise tax took effect in calendar 2008. Other than its “Franchise Tax” designation under Chapter 171 of the Tax Code, the new tax bears little relation to the tax that it replaced.

The former franchise tax was collected under the provisions that had been in effect since 1992. Those provisions required all corporations, including subchapter S corporations, banks, savings and loan institutions, and limited liability companies doing business in Texas, to calculate their tax liability with reference to two tax bases: taxable capital (net worth) and earned surplus. Earned surplus was essentially a company’s modified federal taxable income apportioned to Texas. The tax rates were 0.25 percent on taxable capital and 4.5 percent on earned surplus. However, the earned surplus tax was paid only to the extent that it exceeded the tax liability on net worth. In practice, taxpayers paid the higher of their net worth tax or their earned surplus tax.

The base for the new franchise tax is known as “taxable margin,” which is defined as the smallest of three calculated values: (1) 70 percent of total revenue, (2) total revenue less the cost of goods sold, or (3) total revenue less compensation. Taxpayers with less than $10 million in total revenue may opt to use an “EZ” calculation that applies a 0.575 percent rate to total revenue apportioned to Texas. A firm’s tax base is apportioned to Texas using the ratio of receipts in Texas to receipts everywhere. The tax rate is 1.0 percent for a business not primarily engaged in wholesale or retail trade. For a business primarily engaged in wholesale or retail trade, the tax rate is 0.5 percent.

The 2008-09 biennium will be the first in which the franchise tax is calculated on the taxable margin base. Estimated total (all funds) revenue for 2008-09 is $8.8 billion – 53.3 percent more than the $5.7 billion collected in 2006-07. However, pursuant to HB 2 (79th Legislature, 3rd Called Session), only $5.6 billion in 2008-09 franchise tax revenue – the estimated amount that would have been collected under the previous franchise tax law – will be available for general-purpose spending. As described below, the remainder will be dedicated for school property tax relief.

HB 2 created the Property Tax Relief Fund, which would be funded, in part, by certain portions of franchise and other tax revenues. For the franchise tax, the dedicated portion is the amount by which the total revenues collected under the new law exceed the amount that would have been collected under the old law. For the 2008-09, the incremental franchise tax revenues that will be deposited to the Property Tax Relief Fund are estimated at $3.2 billion.

In fiscal 2008, Texas collected $4.5 billion from the revised franchise tax. Since the beginning of fiscal 2009, the tax reports submitted under filing extension provisions have resulted in more money being refunded than the amounts coming in as additional tax payments. As a result, the estimated tax liability on 2008 reports is $4.3 billion. This estimate does not include taxpayers who may have failed to file timely or additional tax that may be due based on future audits.

The $8.9 billion in estimated 2010-11 franchise tax revenues (all funds) implies virtually flat revenue growth over 2008-09 receipts. This lackluster performance reflects the weak economic and business conditions resulting from the national recession. The portion of biennial revenues estimated for general-revenue purposes is estimated to decline by 6.8 percent to $5.3 billion because under the old law the “earned surplus” base would have been severely affected by plunging corporate profits. The amount estimated for the Property Tax Relief Fund is expected to grow by 14.3 percent to $3.6 billion.

In recognition of the Texas tax’s unique nature and complexity – involving such non-standard concepts as “taxable margin” and “cost of goods sold” – the 80th Legislature (2007) established a Business Tax Advisory Committee to assist it in its evaluation of how the tax performs relative to the tax that it replaced. Key issues to be studied include the relative shares paid by industry type and business size, tax incidence, interstate comparisons, economic (e.g., investment and employment) effects, and factors affecting compliance and revenue generation. The results will be published in biennial reports, to be delivered to the Governor, Lieutenant Governor, and Speaker of the House of Representatives before each regular legislative session through January 31, 2013.

Motor Vehicle Taxes

The state’s principal motor vehicle taxes consist of the motor vehicle sales and use tax, the motor vehicle rental tax, and the manufactured housing sales and use tax. As with other sales taxes, motor vehicle sales taxes respond to changes in the state’s economic growth and reflect changes in price and in the number of vehicles sold.

Throughout fiscal 2007 and going into early 2008, motor vehicle taxes grew steadily, with the motor vehicle sales and use tax setting a monthly collection record of $285.9 million in October 2007. In November, however, collections began to decline, falling rapidly as the year progressed, to the point where fiscal 2008 ended with essentially no gain. Rising fuel prices contributed to the downturn, as well as decisions on the part of consumers to either postpone purchases or to purchase smaller, more fuel efficient – and less expensive – vehicles. As buyers turned away from large SUVs and trucks, similar vehicles coming off-lease brought significant residual value losses to lessors, who then reduced or stopped leasing activity. While the continuation and expansion of manufacturer and dealer incentives were designed to attract potential buyers into showrooms, such incentives proved less effective considering the low or non-existent inventories of vehicles desired by many prospective buyers: sturdy, reliable fuel-efficient cars and hybrid cross-overs.

As the Texas economy has become more vulnerable to the national economic downturn, Texas consumers have grown cautious and uncertain, cutting back on discretionary spending. As Wall Street’s troubles spilled over to local credit markets, what was once cheap and easy financing has now disappeared, making auto loans more difficult to obtain and more expensive.

To make matters worse – absent any effective federal support – all three domestic automobile manufacturers (General Motors, Ford, and Chrysler) are in turmoil – each running down cash reserves, booking multi-billion dollar losses, and facing the possibility of reorganization, if not dissolution. This can only further erode consumer confidence that a manufacturer will be around to honor a new-car warranty.

Going in to the next biennium, it appears that a considerable portion of buyers will be those obliged to replace a vehicle out of need, with discretionary auto purchases severely curtailed. As such, motor vehicle sales and rental tax revenues are expected to continue to decline throughout fiscal 2009, finishing at $2.6 billion. Fiscal 2010 collections are expected to register a slight uptick, to $2.7 billion.

For 2010-11 as a whole, motor vehicle sales and rental taxes are expected to generate $5.5 billion, down 6.5 percent from the $5.9 billion collected in 2008-09.

Oil and Gas Severance Taxes

These taxes consist of the oil production tax, levied at 4.6 percent of value; the natural gas tax, levied at 7.5 percent of value; and the oil regulation tax, levied at 3/16th of one cent per barrel of oil produced in the state.

Severance tax collections are the product of two factors: production and price. Texas oil production peaked more than a quarter century ago, in 1972, when it reached 1.26 billion barrels. Since then, oil production has declined, falling to 342 million barrels in 2007. In January 2002, the taxable oil price was $17.54. From there it embarked on a long-term upward path, rising steadily before dramatically, and briefly, spiking in July 2008 at an all-time monthly high taxable oil price $130.79 per barrel.

Persistent threats of supply disruptions abroad, hurricane-related production losses in the Gulf of Mexico, diminished excess production capacity, growing global demand, and the decline of the dollar all worked to drive oil prices progressively higher. In turn, oil production and regulation tax revenues increased to $1.4 billion for fiscal 2008, an all-time high surpassing the previous record set in 1982. This event triggered the constitutional transfer of $678 million in oil production tax revenues to the Economic Stabilization Fund – only the fifth time that this has occurred.

In fiscal 2007, the average taxable price of oil was $59.02 per barrel; last year, it jumped dramatically to $98.53. As fiscal 2008 drew to a close, however, the financial and economic downturns in the U.S. and other markets triggered a steep decline in worldwide demand, to the point where the average taxable price for fiscal 2009 is forecasted to plunge to $50.28 per barrel. For fiscal 2010, the average taxable price is expected to fall even further, to $39.55 per barrel, rising to $47.31 in 2011 in response to increased demand consequent to the projected economic recovery. Because of the continuing trend of production declines and expected lower prices in the near term, oil production and regulation taxes are anticipated to generate $1.2 billion in revenue for 2010-11, compared to $2.2 billion in 2008-09 – a 43.3 percent decline.

Taxable natural gas prices continued to rise in fiscal 2006 to an average of $7.50 per thousand cubic feet (Mcf), 27.8 percent above the fiscal 2005 price of $5.87 per Mcf. Much of the price increase occurred in the third and fourth quarter of calendar 2005, because of Hurricane Katrina-induced production losses in the Gulf of Mexico. Prices began to fall in the second quarter of calendar 2006 due to reduced demand from the hurricane-damaged industrial sector and one of the warmest Januarys on record. Over the second and third quarters of 2006, record levels of natural gas were injected into storage. Fiscal 2007 prices decreased to an average of $6.34 per Mcf as the storage overhang exerted downward pressure on prices through the winter. Prices rebounded to $7.67 per Mcf in fiscal 2008 as storage overhang was worked off in concert with the rapid rise in crude oil prices.

Fiscal 2009 and 2010 natural gas prices are expected to decrease – to $5.79 and $5.06 per Mcf, respectively – as the U.S. and world economies continue to cool. As the economic recovery builds into fiscal 2011, the average taxable price of natural gas is expected to climb to $5.63 per Mcf.

Texas natural gas production has been on an upward path since 2006. Most of this production increase comes from the Barnett Shale reservoir, which reached a milestone in calendar 2007 as annual production exceeded 1 trillion cubic feet. The reservoir, which currently spans 19 counties in the Fort Worth Basin, accounted for 17 percent of Texas production in 2007.

Natural gas tax receipts are expected to total $3.3 billion in 2010-11, compared to $4.5 billion in 2008-09, a 26.5 percent decline.

Insurance Taxes

Most of the insurance that is purchased in Texas is subject to two types of taxes: insurance premium taxes and insurance maintenance taxes. While the tax base for each is generally the amount of gross premiums written, the rates vary depending upon the type of insurance.

Insurance maintenance taxes are used to fund regulatory costs, and the tax rates are adjusted annually based on each regulatory agency’s appropriation and unexpended balance from the previous year. Insurance premium tax collections are deposited into the General Revenue Fund and are thus available for general purpose spending. Property and casualty insurance is taxed at a 1.6 percent rate, and title insurance is taxed at 1.35 percent. The rate for life, accident, and health insurance is 1.75 percent, which also applies to HMO gross revenues.

Driven largely by population and economic growth, as well as by higher health care costs and rising property values, insurance tax collections totaled $2.6 billion in 2006-07. This was a 7.7 percent increase over the previous biennium. In fiscal 2008, revenues grew even faster, registering a 7.7 percent annual increase over 2007 revenues. In fiscal 2009, however, net revenues are expected to decline, yielding a 5.0 percent biennial growth rate for 2008-09, and $2.7 billion in net revenues.

Although health insurance premiums are expected to continue to rise, any positive effect on premium tax revenues will be muted to the extent that employers either drop group coverage or switch to plans with lower premiums and/or higher deductibles and other employee out-of-pocket costs. These pressures will increase as the U.S. economy deteriorates. Likewise, the nationwide credit crisis is expected to cause title insurance premiums to fall, both as a consequence of fewer home sales and falling home prices.

The prime reason for the projected decline in fiscal 2009 and beyond, however, lies with Hurricane Ike’s effect on property and casualty insurers. Although it is still too early to determine the total damage to the Gulf Coast communities caused by the storm, some estimates have gone as high as $20 billion. The direct impact on insurers has been two-fold. First, licensed insurers writing windstorm coverage in Houston proper, as well as in the affected coastal communities, have experienced a severe run-up in claims. As their reserves run dry, insurers will be forced to raise premiums and reduce exposure by imposing higher underwriting standards. This, combined with declining investment income and portfolio values, implies that the so-called “soft” market of competitive rate reductions and relatively liberal underwriting standards in 2006-07 will cease abruptly.

Second, in the state’s 14 coastal counties (plus an easterly portion of Harris County), the main insurer for windstorm damage is the Texas Windstorm Insurance Association (TWIA), which acts as the windstorm insurer of last resort when property owners cannot obtain coverage through the “voluntary” market (i.e., traditional licensed property and casualty insurers). TWIA’s members include virtually all licensed property and casualty insurers in the state.

When windstorm-related claims exceed TWIA’s reserves, the excess claims are funded through a progression of capped assessments against member insurers; money in the Catastrophe Reserve Trust Fund; reinsurance; and, finally, uncapped “creditable” insurer assessments that can be recouped as credits against future insurance premium tax liability, at the rate of 20 percent per year over the following five years. The credits, however, can be applied only to the extent that they do not exceed an insurer’s tax liability, meaning that their “tail” may extend far beyond five years.

Following Hurricanes Katrina and Rita in 2005, TWIA experienced a significant increase in its number of policyholders and total exposure. As a consequence of the damage caused by Hurricanes Dolly in July and Ike in September 2008, windstorm claims filed with TWIA quickly grew to more than $2.1 billion, overwhelming the association’s reserves, its reinsurance, and the trust fund balance. As a consequence, TWIA had to impose $230 million in creditable assessments in the fall of 2008 – in addition to $100 million and $200 million in earlier non-creditable assessments – with the possibility of at least one more creditable assessment being levied in 2009.

As such, insurers will be able to claim as much as $46 million in new premium tax credits beginning with their premium tax reports due March 1, 2009. To put that figure in perspective, the total gross tax liability for licensed property and casualty insurers in Texas was $509 million for the 2007 tax year. Moreover, because total Ike- and Dolly-related claims could continue to grow during calendar 2009 – not to mention the possibility of additional claims consequent to one or more severe storms this upcoming hurricane season – additional creditable assessments could elicit additional tax credits starting with reports filed in and after fiscal 2010.

Finally, in addition to the new Ike-related assessment credits, fiscal 2009 will mark the beginning of the first five-year period of certified capital company (“CAPCO”) investments, pursuant to legislation passed in 2001 and 2003. These credits, also taken at a rate of 20 percent over five years, were limited to $200 million in qualifying investments, but the Legislature authorized a second $200 million program in 2007. The annual credits, estimated at $50 million, will first be allowed on reports due March 1, 2009. Including credits taken under the second program, the credits can be expected to extend through 2017.

In summary, taking all industry, economic, and hurricane-related factors into account, net insurance tax revenues in 2010-11 are expected to register a 5.0 percent decline, falling to $2.6 billion.

Tobacco and Alcoholic Beverage Taxes

Cigarettes, which account for the great majority of tobacco tax revenue, had been taxed at the rate of $0.41 per pack of 20 cigarettes since 1990. In January 2007, pursuant to HB 5, 79th Legislature, 3rd Called Session, the cigarette tax rate increased by an additional dollar to a total of $1.41. The additional revenue attributable to that rate increase was dedicated to the Property Tax Relief Fund; revenue from the cigarette tax at the former rate ($0.41) remains dedicated to the General Revenue Fund. The substantial tax rate increase, ongoing health concerns, and the increasing number of municipal restrictions on smoking have exerted a significant downward force on cigarette consumption and, in turn, the associated tax revenues.

In 2006-07, with the cigarette tax rate set at $0.41 per pack in the first 16 months of the biennium, cigarette and cigar/tobacco products tax collections totaled $1.9 billion, 65.8 percent above the previous biennium.

In 2008-09, the cigarette tax rate will be at $1.41 per pack in both years, and cigarette and cigar/tobacco products tax collections are expected to total $3.0 billion, 59.2 percent above the amount collected in the previous biennium.

For 2010-11, total combined collections of both taxes are expected to decline by 3.9 percent, to $2.9 billion. Of this amount, $1.1 billion will be available for general purpose spending, and $1.8 billion will be dedicated for public education spending through the Property Tax Relief Fund.

Texas imposes several alcohol taxes. The taxes on beer, liquor, wine, malt liquor (ale), and airline/passenger train beverages are based on the volume or quantity sold, while the tax on mixed beverages, levied at 14 percent of gross receipts, is value-based.

The mixed beverage tax will show relatively slow growth in 2010-11, mirroring the expected downturn in the state’s economy. Collections will reach $1,236 million, just 3.8 percent above the $1,191 million expected for 2008-09, and will account for over three-quarters of all alcoholic beverage tax receipts during the biennium. Wine tax collections will rise modestly in the upcoming biennium, but tax collections from beer, liquor, wine, and malt liquor (ale) will decline modestly. Overall, all alcoholic beverage taxes are expected to generate $1,616 million in 2010-11, up 2.8 percent from $1,572 million estimated in 2008-09.

Motor Fuels Taxes

In fiscal 2008, gasoline tax collections rose by a modest 0.6 percent over fiscal 2007. The growth occurred despite dramatic increases in the retail price of gasoline. Diesel fuel tax collections rose by a much more robust 4.4 percent during the year, due in large part to the state’s strong economy. However, higher gasoline and diesel fuel prices, combined with a cooling economy, eventually took their toll, and demand for both fuels started dropping during the last few months of fiscal 2008. Going into fiscal 2009, fuel prices started falling rapidly as the price of oil plummeted in response to the freefalling slump in worldwide demand.

After deducting for transfers to the State Highway Fund, motor fuels tax revenues for 2008-09 are expected to rise by 2.7 percent to $1,658 million, slightly more than the 2.6 percent increase experienced in 2006-07. As the state’s economy recovers, and with the expectation that fuel prices will stabilize below their 2008 peak, the corresponding General Revenue-related amount is expected to rise by 3.5 percent, to $1,716 million in 2010-11.

Utility Taxes

Investor-owned utilities pay several taxes on their gross receipts. Of these, the gas, electric, and water utility tax is the largest. Compared to the $853 million collected in 2006-07, revenues from this source are only expected to reach $855 million in 2008-09, a 0.2 percent increase. Looking at 2010-11, however, falling energy prices are expected to cause a 2.2 percent decline in these revenues, to $836 million.

Public utility gross receipts assessments (which are paid by electric and telecommunications utilities) will also show slight growth, 0.6 percent, for the current biennium and a rebound in 2010-11 of 7.7 percent. Gas pipeline tax revenues are expected to exhibit extremely robust growth of 33.7 percent for 2008-09 because of strong natural gas demand and high natural gas prices in fiscal 2008. Following the sharp rise in 2008-09, these revenues will decline by 14 percent in 2010-11, a direct result of falling energy prices.

Overall, combined utility tax revenues are expected to show a 0.9 percent biennial increase in 2008-09, yielding $995 million, largely because of higher energy costs from natural gas or electricity generated from natural gas and fuel oil. The outlook for 2010-11 will shift, with total utility tax receipts expected to decline by 1.3 percent to $983 million, due to declining natural gas and crude oil prices.

Hotel Occupancy Tax

Following the extraordinary 29.5 percent growth rate recorded in 2006-07, hotel occupancy tax revenues are expected to grow by 13.0 percent to $733 million in 2008-09, losing their steam going into the latter half of the biennium. Because of projected declines in tourist as well as business related travel, fiscal 2009 revenues are expected to drop by 2.4 percent – the first collection decline since 2003. As the state and national economies pick up in 2011, revenues are expected to rebound in the latter half of the biennium, yielding a net 1.9 percent increase for 2010-11, to $747 million.

Inheritance Tax

Beginning in calendar 2005, the state inheritance tax ceased to be levied, pursuant to changes in federal tax law in 2001. The federal law, which began decreasing state revenues in fiscal 2003, reinstates the state and federal taxes in 2011, implying that state revenues would resume in fiscal 2012 unless the provisions eliminating the federal tax were extended. Although Texas no longer imposes a tax on estates, minimal revenues from past due returns, audits, and payout agreements continue to be collected. For fiscal 2009, the tax is estimated to bring in $1 million before falling to zero in fiscal 2010 and 2011.

Other Taxes

The state’s remaining taxes include taxes on such disparate subjects as cement, sulphur, coin-operated machines, oil-well services, attorneys, and bingo rental receipts. Other tax collections are expected to generate $146 million in 2010-11, down 6.5 percent from the $157 million in General-Revenue related collections in 2008-09.

Non-Tax Revenue

In addition to the $68.5 billion in tax revenue estimated for 2010-11, the state’s General Revenue-related funds are expected to receive $8.2 billion in non-tax revenue. This represents a 20.1 percent decline from the $10.2 billion in non-tax receipts in 2008-09. Non-tax revenues flow from, among other sources, state lottery proceeds; licenses, fees, fines, and penalties; and, as discussed immediately below, the total return distribution from the Permanent School Fund to the Available School Fund.

Interest and Investment Income

Interest and investment income is expected to decrease by 89.4 percent to $176.7 million in 2010-11. The Permanent School Fund (PSF) traditionally produces most of the investment income accruing to general revenue-related funds.

In September 2003, voters approved an amendment to the Texas Constitution to change the way funds are transferred from the PSF for use in providing aid to school districts. Under the old system, only earnings from interest and dividend proceeds were transferred. With the change, a disbursement system known as “total return” was put in place. Put briefly, the PSF disbursements under the new system are calculated by applying percentage distribution rate times the average market value of the PSF for the previous 16 state fiscal quarters. The percentage distribution rate is adopted biennially by the State Board of Education. Since the adoption of the amendment, $ 4.1 billion has been disbursed from the PSF through fiscal 2008.

To help ensure the integrity of the PSF corpus, the 2003 amendment includes a provision governing the size and timing of the disbursements, but until now, that provision has never come into play, because the value of the corpus has consistently increased.

From October 2007 to October 2008, however, the market value of the PSF fell from $26.7 billion to $18.7 billion. Pursuant to Article VII, Subsection 5(a)(2) of the Texas Constitution, this steep drop in value could limit transfers from the PSF to the Available School Fund (ASF). The State Board of Education requested an Attorney General opinion on November 4, 2008, regarding the implementation of this constitutional provision. Due to the possible, or even probable, constitutional limit on distributions to the ASF – and in light of the continuing and severe financial market turmoil – a zero distribution was forecasted for the 2010-11 biennium, a dramatic decrease from the $1.4 billion distribution in the 2008-09 biennium.

Lottery Proceeds

In fiscal 2008, overall Texas lottery sales fell by 2.7 percent, with sales of both instant tickets and “lotto” style games falling by the same percentage. All existing lotto games lost sales, but sales of three new options (Daily 4, Pick 3, and Sum It Up) compensated for some of the loss. For all game types combined, Texas lottery sales totaled $3.7 billion in fiscal 2008, of which $983 million was transferred to the Foundation School Fund. Transfers to the Foundation School Fund are projected to continue a gradual decline, totaling $1,882 million in 2010-11, compared to an estimated $1,943 million in 2008-09.

Remaining Revenues

In addition to the two revenue sources discussed above, the non-tax revenue category includes, among other revenue sources, licenses, fees, fines, and penalties; the sales of goods and services; land income; contributions to employee benefits; settlements of claims (including tobacco settlement proceeds); unclaimed property; third-party payments from private vendors in the state-federal Medicaid program; and federal payments to the state for treating indigent patients.

In fiscal 1999, Texas began receiving regularly scheduled court settlement payments from tobacco product manufacturers. Beginning in 2000-01, payments were adjusted for changes in the national consumer price index, the settling tobacco companies’ U.S. cigarette sales, and those companies’ domestic operating profits. In 2010-11, Texas tobacco settlement receipts are expected to total $982 million, a 5.0 percent decline from the $1,034 million expected in 2008-09.

Future tobacco settlement payments may be affected negatively by the cigarette tax increases imposed recently by Texas and other states (and their local governments). The resulting higher consumer prices are likely to accelerate the decline in cigarette consumption, reducing the sales volume of the settling cigarette manufacturers and thereby causing lower settlement payments.

Revenues from the Disproportionate Share (DSH) and Upper Payment Limit (UPL) programs, which help pay for indigent care at state and local hospitals, are expected to decline to $586 million in 2010-11, a 17.2 percent decline from the $707 million expected in 2008-09.

In 2008-09, the state’s $482 million in DSH revenues were augmented by $225 million in UPL revenues, which, for the first time, were re-directed by the Legislature from the Health and Human Services Commission to un-obligated general revenue.

The revenue decline is attributable to timing factors and the interaction of UPL and DSH program payments. First, because of a two-year delay in the program in 2006-07, the state will receive three years of state teaching-hospital UPL payments in 2008-09, but only the regular two years of payments in 2010-11. Thus, total UPL revenues will fall by 24.1 percent to $171 million in 2010-11.

Second, even though UPL payments (which are based on the generally higher Medicare, rather than Medicaid, rate for procedures performed in the previous year) help reimburse hospitals for the cost of indigent care after a one-year delay, the payments also reduce the un-reimbursed cost of indigent care for DSH payment calculations two years later. Thus, the high amount of UPL payments in 2008-09 will serve to reduce DSH teaching hospital DSH payments in 2010-11. Those payments are estimated to fall by 14.0 percent to $415 million.

Because of the increasing number and cost of prescriptions, the general revenue portion of federally-mandated and state-supplemental Medicaid vendor drug rebates is expected to increase by 12.5 percent in 2010-11, to a total of $683 million, compared to the $607 million expected in 2008-2009. Payments from major pharmaceutical manufacturers participating in Medicaid’s vendor drug program fell temporarily in 2006 and again in 2007 as Medicare (rather than Medicaid) assumed responsibility for providing prescription drugs to low-income senior citizens. However, after Medicare’s program was fully implemented, these rebates resumed their increase in 2008.

Revenue to All Funds

Revenue to all funds will total $167.7 billion in 2010-11, a 1.3 percent decline from the $169.9 billion expected for the preceding biennium. In 2010-11, General Revenue-related receipts will total $76.7 billion – 4.7 percent below the $80.5 billion in corresponding collections in 2008-09; and dedicated federal income will account for $55.1 billion, 1.6 percent above the $54.2 billion expected in 2008-09. Most of the federal funds will be used for health and human services, highway construction and maintenance, and public education programs. A second large source of all funds revenue is the State Highway Fund’s share of motor fuels tax revenue, which is constitutionally dedicated to highway construction and maintenance and public transportation.

In addition, total estimated revenues do not include certain local funds that are appropriated but not deposited into the State Treasury, but they do include certain revenues that are deposited in the State Treasury but not appropriated, such as royalties deposited to the Permanent School Fund.

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