The public witnesses were Janet Brown and Elinor Hart, members of D.C. Statehood - Yes We Can!, Charles Cassell FAIA, former Chair of the D.C. Statehood Party and former Chair of the 1982 D.C. Statehood Constitutional Convention, Anise Jenkins of Stand Up! for Democracy!, David Schwartzman of the D.C. Statehood Green Party, and Ann Loikow of D.C. Statehood - Yes We Can!.

The written testimony of some of the witnesses is printed below.

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http://www.brookings.edu/testimony/2009/0713_dc_statehood_rivlin.aspx?p=1

If the District of Columbia becomes a State: Fiscal Implications

Washington DC, Fiscal Policy

Alice M. Rivlin, Senior Fellow, Economic Studies

Council of the District of Columbia

JULY 13, 2009 --

Mr. Chairman and Members of the Committee: 
The nation’s founders decided to carve a separate entity, the District of Columbia, out of Maryland and Virginia to serve as the capital of the new country. The decision doubtless seemed right at the time, but it has left the residents of modern DC with two serious problems: (1) they lack the democratic rights enjoyed by Americans who live in states: full self government and an equal voice in the national political process; (2) they lack sufficient financial resources to pay for high quality public services.

Statehood for the District of Columbia is frequently proposed as a solution to both these problems, but it faces formidable political obstacles at the national level. The purpose of today’s hearing is to explore the fiscal implications of DC statehood. Statehood would certainly give DC residents the democratic rights and responsibilities of other Americans, but would it also give them significantly enhanced public resources that could be devoted to improving public services or reducing tax rates or both? How significant would these enhancements be likely to be?

Fiscal disadvantages of the District’s current status
The District’s special status affects its ability to raise revenue and provide public services. First, although it is not a state, it must perform the functions of a state as well as those of a city government. Besides providing local services, such as schools, police and fire, it is responsible for motor vehicle services, Medicaid and mental health services, as well as higher education and other functions normally handled at the state level. Second, despite its state-like responsibilities, the District does not have full state taxing authority. Congress expressly prohibited the District from taxing the income earned within its borders by non-residents, a power that all states have. State income taxes apply to income earned in the state, by residents and non-residents alike. A few cities also have commuter taxes that apply to income earned by commuters in the city, but these are normally small. It is the lack of a state-level income tax on non-resident income that depresses the District’s revenue-raising capacity significantly. Third, the city’s largest employer, the federal government, uses city services, but does not pay property, sales or income taxes. The same is true of embassies and international institutions. Many tax-exempt non-profits also locate here to be near the federal government. Moreover, the federal government often fails to reimburse the District for the costs of dealing with major national events, such as inaugurations and demonstrations. 

These limitations are exacerbated by the small size and demographics of the capital. The District is an extremely small central city (only 61.4 square miles) at the heart of a prosperous and growing metropolitan area. It is ringed by relatively affluent suburbs, many of whose residents work in the District, use its roads and parks and other services, but pay no income tax to the District. Indeed, two thirds of the income earned in DC is earned by non-residents, most of whom live in Maryland and Virginia. Moreover, the District, like many central cities, has a large low-income population with way-above-average needs for public services. The cost of providing services in the city is high as a result of elevated rents and property values, wages that reflect the need to compete with suburban jurisdictions and the federal government for employees, and expenses associated with security in distressed neighborhoods. Other central cities face similar problems, but often get substantial financial help from their state. The State of Maryland, for example, provides major assistance to Baltimore, especially for education. 

The fiscal handicaps of the District have been described in several studies and reports, including one I co-authored seven years ago with Carol O’Cleireacain. (Carol O’Cleireacain and Alice M. Rivlin, “A Sound Fiscal Footing for the Nation’s Capital: A Federal Responsibility, The Brookings Institution, 2002). One of the most detailed studies was carried out by the agency now called the Government Accountability Office (GAO), which attempted to estimate the size of the District’s structural deficit (District of Columbia Structural Imbalance and Management Issues, 2003). By “structural deficit” the GAO meant the gap between the District’s actual resources and what it would need to be able to deliver an average level of public services with average tax rates (calculated by averaging the fifty states, including their local governments). GAO estimated the District’s structural deficit at somewhere between $470 million and $1.1 billion a year, depending on specific assumptions and made clear that the prohibition against taxing non-resident income was a major contributor to the District’s budgetary disadvantage. 

For many years the District received an annual payment from the federal government to compensate for some of the fiscal impairment suffered as a result of its special status as the nation’s capital, especially its truncated taxing power. In 1997, however, as the District was beginning to recover from the severe fiscal crisis that brought on the “control period,” the federal government took a new approach. It phased out the federal payment, but assumed the cost of the District’s courts and the responsibility for incarceration of the District’s convicted felons. It also compensated the District for the unfunded pension liability created while the federal government ran the District Government prior to Home Rule and raised the percentage that the federal government contributed to Medicaid from 50 to 70 percent.

Balancing the Fiscal Positives and Negatives of Statehood

Over the years, new states have been admitted to the union after negotiations, sometimes lengthy, over the terms. Historically, consideration has been given to the fiscal viability of the state; for example, whether it has sufficient industry or commerce and whether it has an adequate revenue-raising capacity. New states typically received grants of federal land or equivalent cash to help defray public expenses. No new state has been admitted since Alaska and Hawaii in 1959, and there is certainly no precedent for the admission of a state consisting of a fully built-up urban area, such as Washington, DC.

The dominant fiscal question in a negotiation over statehood for DC would involve taxation of non-resident income. Since all states have the right to tax income earned within their borders, it is hard to imagine that District statehood would not include that power. The CFO’s office estimates that if DC were able to tax non-resident income at its current tax rates it could raise more than $2 billion additional revenue, more than doubling the current yield of the District’s individual income tax of about $1.3 billion. Including non-resident income in the tax base would give the District the option of cutting its income tax rates in half and still raising substantial additional revenue to improve public services. Better services and lower income tax rates would make the District a more attractive place to live and might precipitate substantial in- migration, especially of upper income people whose location decisions are sensitive to income tax rates.

The fiscal losers in this scenario would be the State of Maryland and the Commonwealth of Virginia, which benefit enormously from the fact that DC cannot tax their residents on income they earn in the District. These states would likely fight hard to block statehood for the District, to restrict the new state’s tax powers if statehood appeared inevitable, and to get federal compensation for their loss if all else failed. The understandable opposition of these two powerful states to incurring fiscal losses seems to me far more likely to derail DC statehood than considerations of party or racial politics.

As Walter Smith points out in his testimony, it is possible that the District might find itself in the position of having to choose between statehood with severe restrictions on its ability to tax non-resident income and no statehood at all. Moreover, the terms of statehood might include carving out a substantial federal enclave whose workers would not be subject to DC income tax unless they lived in the District.

As to the fiscal downsides of statehood, the major issues in the negotiation would be whether the District would be forced to give up the advantages it gained in the Revitalization Act of 1997. There would be some advantages to the District to taking back the responsibility for funding its courts, since the District might gain more control over such spending that it has over an obscure item buried in the budget of the U.S. Department of Justice. Taking back responsibility for incarceration of convicted felons, however, would involve building and operating a prison or compensating the U.S. Bureau of Prisons for the costs it incurs on behalf of the District. As to the higher Medicaid match, the District would certainly argue that its relatively high poverty rate warranted more favorable treatment than other states with similar incomes. These other states, however, would argue against special treatment for the District, and the District’s protestations might not prove persuasive.

Losing the budgetary benefits of the provisions of the 1997 Act related to courts and Medicaid would have cost the District approximately $941 million in 2007 (see Table) —a substantial offset to the potential additional revenues from taxing non resident income.

The net effect of all these fiscal positives and negatives associated with statehood is extremely uncertain. My guess is that statehood would bring positive net fiscal benefits to the District, provided it included the power to tax non-resident income (except for a federal enclave), although losing the savings from the Revitalization Act of 1997 would offset a large fraction of the gain.

Table (Revised as of July 14, 2009)

District Losses if the Revitalization Act of 1997 were Repealed

Potential Costs and Benefits Associated with Statehood (Dollars in thousands)

Costs

Return of state-like services from Federal government                                                    FY 2007 Actual

Adult Felony Prisoners                                                                                                            211,647 (1)

Public Defender                                                                                                                         31,000

Pre-trial Services                                                                                                                       45,000

Defender services                                                                                                                     38,000

Community Supervision                                                                                                         134,000

Court of Appeals                                                                                                                          9,000

Superior Court                                                                                                                           87,000

DC Court System                                                                                                                       41,000

Subtotal                                                                                                                                     596,647

Capital Improvements at Courts                                                                                             67,000

FY 2007 Actual

Base FMAP change from 70% to 50% (FY 2008)                                                          277,5082

Total                                                                                                                                          941,155

Sources: United States Office of Management and Budget. Budget of the United States Government (Fiscal Year 2009); 1Government of the District of Columbia, Office of Revenue Analysis; and 2 the Henry J. Kaiser Family Foundation. District of Columbia: Federal and State Share of Medicaid Spending, FY2007. Retrieved at http://www.statehealthfacts.org.

A Personal View

I would dearly love to live in the State of Columbia, represented in Congress by two non-shadow Senators and a Representative with full voting powers. I would want Columbia to have full fiscal autonomy and the same revenue-raising powers as other states. However, I think statehood is so unlikely to happen in the foreseeable future that pursuing it is a serious distraction from more important and feasible policies that could improve both the autonomy and fiscal health of the District. These include; voting representation in the House and maybe even a voting Senator and more federal compensation for DC’s fiscal disadvantages, including a federal contribution to DC’s operating budget and/or a larger federal investment in making Washington a world class capital. A recent volume to which I contributed, Building the Best Capital City in the World (DC Appleseed and Our Nation’s Capital, Dec. 2008), lays out an action plan for partnering with the federal government to improve DC’s infrastructure. I would urge the Council to give high priority to making DC’s current government more effective and taking feasible steps toward greater autonomy and fiscal resources—rather than devoting your talents and energies to pursuing the faint hope of making DC a state.

Thank you, Mr. Chairman.

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Council of the District of Columbia

Special Committee on Statehood and Self-Determination

Chair, Michael A. Brown (At-Large)

Hearing, July 13, 200

Wilson Building, Rm.500

Testimony of

Janet W. Brown

The “Cost” of DC Statehood

My name is Janet Brown.  I moved to the District fifty-one years ago, and I have resented every day since, that moving to a city that I love deprived me of full and equal citizenship in the United States of America.  I have been an advocate of Statehood ever since, and am a member of several organizations arguing before this committee for Statehood for the residents of the District.

Today I want to dispel the financial concern that I hear all too frequently, that the District “cannot afford” to be a state.  Indeed, we cannot any longer afford not to be a state.  If we examine the figures put together in the invaluable report by Appleseed, “Building the Best Capital City in the World,” (December 2008) to which Dr. Alice Rivlin is the major contributor, they reinforce the reasons why everyone in this room should be an active Statehood advocate.  Not only would Statehood finally make us DC residents full citizens in our American democracy, but we’d all be better off collectively, and maybe individually as well, in the state of New Columbia.

There are, of course, two sides to the Statehood balance sheet: (1) what DC taxpayers would have to pay in a state that we now do not have to pay for, and (2) what additional income we might realize in a state, income that we cannot now collect.

(1) Let me summarize first what we don’t now have to pay for.

Under the DC Revitalization Act of 1997, the federal government assumed responsibility for some services (usually paid by state governments) that DC had up until then paid for:

The Court System (prosecution, prisons, pre-trial services, public defenders, parole, etc.)

We don’t know the exact cost of this, but the DC Office of Revenue has made some estimates, and I have filed a FOIA request to find out what the Justice Department currently spends on performing those functions for DC.

Most of DC’s pension liability.  DC continues to pay all pensions for police, firefighters, and teachers, but the rest of the accumulated un-funded pension liability was assumed by the federal government.

The Fed also increased its Medicaid match for DC from 50% to 70%.  The state of New Columbia would not necessarily have it’s Medicare match cut back to 50%.  Only ten states (CA, CO, CT, DE, IL, MD, MA, MN, NH, NJ, NY, and VA) actually receive the minimum 50%.  Six states receive more than DC (AK, ID, MS, NM, UT, and WV) and another seven receive a 65-70% match.

(2) Now let us consider the additional income the state of New Columbia might realize:

Taxes DC cannot now collect - $2.26 Billion in 2007 from Maryland and Virginia residents who work in DC. (DC Office of Revenue estimates for 2007)   Right now we taxpayers in DC are subsidizing the both the Maryland and Virginia state treasuries at about a billion dollars each a year! As a state, our Mayor/Governor could negotiate a reciprocal agreement with those states to tax income where it is earned, the kind of agreement that New York state has had for years with Connecticut and New Jersey. (Not even a DC voting Representative and two voting Senators could do that, only Statehood can correct that particular unfairness.)

An annual federal payment to the state of New Columbia to pay for the services we provide the federal government, the lack of revenue from the 40% of the DC land owned by the federal government ($0.54 billion at current rates),  and to compensate for the revenue lost from tax-exempt organizations located here because it is the capital city.  The net benefit to the District of the Revitalization Act in 1998 was $201 million; in FY2007 it was $225 million. The national governments of most western democracies compensate their capital cities for the unique burdens a capital city bears.  (The Appleseed report documents the various ways this is done in 14 different western countries.)

As a state, with two Senators and a Representative with votes to bargain with, we could expect to receive a somewhat larger allocation of some federally funded programs than we now do.  We would have to assume our full role in the Congressional legislative process and use our votes to bargain with other states and with the Administration.  With political power comes economic power in the American political system.

No one can give us the exact figures as to how statehood would work (we have a better idea of the costs than of the potential additional income), but we do know enough to have the confidence that Statehood will work for us financially, that DC is all ready carrying out and paying for scores of state functions, many of them by unfunded federal mandate.  Our city is better managed than many states, our deficit smaller. In any case, we do not have to have the financing in the bank to demand our right to full and equal citizenship.  Whatever financial and institutional arrangements are required in our application for Statehood, the legislation will have to provide for a transition.

Time will be required, for instance, to shift the court system’s functions back to the city, just as Maryland and Virginia will need time to adjust to revenue shifts that would probably  be more palatable if phased in over five to ten years.  In the meantime, we need to educate ourselves and everyone in the District as to the rights and benefits of Statehood, get the appropriate legislation introduced to Congress, and organize to fight for our rights.  If we do that, I am sure that President Obama in his second term will weigh in as he cannot now do.  In all of this we need the leadership of the Council and the Mayor.

But however we plan this campaign, I would caution that we be very smart about the order in which we go about things.  Yes, DC as the nation’s capital city should be supported by a federal payment, but I am wary about going for it before we achieve statehood.  It is arguable, I think, that we ought to go for statehood first and then for a federal payment.  Otherwise, the additional federal money, no matter how deserved –  indeed, how necessary it may be – will be interpreted by many as an indication of “dependency” and will be seen by some members of Congress in both parties as a justification for continued control and interference in our internal affairs.

Thank you.

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If Council members have not yet seen them, I recommend two useful analyses produced by two fine economists in the DC Office of Revenue Analysis:

“Calculating the Impact of Federal Preemptions on the District’s Tax Revenue,” by Yesim Yilmaz, Senior Economist, May 2008.

“Update of the National Capital Revitalization and Self-Government Improvement Act of 1997,” by Robert Zahradnik, Director of Research, Office of Revenue Analysis, September 2008.

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