The fiscal outlook remains uncertain, as state tax revenue performance remained sluggish in the first half of fiscal year 2025, despite robust stock market gains during the same period. This weakness is partly due to widespread tax rate cuts and other relief measures enacted in recent years.

Trends in Tax Revenue

State tax revenue trends in the third quarter of 2024 and for the first half of fiscal year 2025 reveal a complex and variable fiscal environment. While some tax streams showed gains, broader patterns highlight ongoing fiscal challenges and regional disparities. Below are key revenue trends in the first half of fiscal year 2025 by tax type.

• Personal income taxes: In the first half of fiscal year 2025, personal income tax revenues saw solid gains, primarily fueled by a strong stock market. However, states that recently reduced income tax rates are seeing a dip in withholding tax collections. Personal income tax collections remain increasingly volatile, particularly in states that rely heavily on high-income earners and stock market performance.
• Corporate income taxes: Corporate income tax revenues showed substantial declines in the first half of fiscal year 2025, due to weakened corporate profits and recent tax policy changes in several states.
• Sales taxes: In the third quarter of 2024, sales tax revenues continued their downward trend for the sixth consecutive quarter when adjusted for inflation. This decline reflects a significant shift in consumer spending from taxable goods to untaxed services, posing long-term fiscal risks. Although some states have responded by expanding their sales tax bases to include certain services, many remain untaxed. Despite expectations for a seasonal boost from holiday shopping, sales tax revenues in the fourth quarter of 2024 remained weak, with only a nominal 2.5 percent growth in the median state.

What to Expect in the Future

After widespread tax cuts implemented post-pandemic in nearly every state, early indicators suggest potential fiscal challenges on the horizon. These include slowing revenue growth and looming changes in federal policy that could have significant impacts at the state level.

As key provisions of the federal Tax Cuts and Jobs Act expire in 2025 and a new federal administration takes office, states must navigate a landscape filled with fiscal unpredictability and potential policy shifts. Policymakers must balance competitive tax strategies with the need to sustain public services and ensure fiscal health amid these evolving conditions. This critical juncture requires states to adopt forward-looking strategies that consider both immediate needs and future uncertainties.

What We’re Focusing On

This quarter’s report highlights state personal income tax rate cuts from 2021 through 2024. Our analysis indicates that 24 of the 41 states with a personal income tax base have enacted tax cuts, some across multiple years. Our findings highlight a significant trend: a shift from progressive to flat tax systems in states such as Arizona, Georgia, Idaho, Iowa, and Louisiana. This transition simplifies tax codes but tends to favor higher-income earners. Moreover, strategic reductions in top tax rates in states like Arizona, North Dakota, and Ohio have disproportionately benefited wealthier taxpayers. This report offers a critical examination of these changes, providing stakeholders with valuable insights into the evolving dynamics of state taxation policies and their broader economic implications.