Tax revenue slowdown in forecast

The state's recent surge in tax revenues will probably slow in the next two years, according to economic forecasters who testified on Beacon Hill yesterday, dampening expectations of a big spending spree and the income tax cut sought by Governor Mitt Romney.

Tax revenue growth is likely to slow to between 5 percent and 5.7 percent in each of the next two fiscal years, down from the 7.1 percent growth in the fiscal year that ended June 30, according to testimony yesterday by state Revenue Commissioner Alan LeBovidge, Michael J. Widmer of the Massachusetts Taxpayers Foundation, and David Tuerck of the Beacon Hill Institute at Suffolk University.

Though their growth is slowing, the state's collections for the current fiscal year, which ends June 30, will be large enough to trigger a modest expansion of state personal income tax exemptions, revenue officials disclosed yesterday. The larger exemptions, required by a law enacted in 2002, will save individual taxpayers about $15 and couples about $29. Now couples will be able to deduct $7,700, up from $7,150, and individuals will be able to deduct $3,850, up from $3,575.

Yesterday's assessment is closely watched on Beacon Hill, where lawmakers and Romney are already preparing the new state budget for fiscal year 2007, which begins July 1. It carries additional weight this year, because many political observers say that Romney is readying a run for president in 2008 and his stewardship of the state's economy could be a factor in his campaign.

The economic forecasters attributed the projected slowdown to weak job growth, lower corporate profits, and a recently approved measure granting up to $275 million in refunds to 157,000 investors who paid capital gains taxes in 2002. Massachusetts lost jobs in August, September, and October.

''We are only one-sixth of the way back to where we were at the highpoint at the beginning of 2001," Widmer said, referring to the 207,000 jobs the state lost during the recession. ''The state's fiscal affairs remain tight." Income taxes make up the bulk of the state's revenue.

A fourth witness, economist Alan Clayton-Matthews of the University of Massachusetts at Boston, declined to make a revenue prediction, but cautioned that ''our economy is growing slowly, and it doesn't show any signs of accelerating."

''In the face of slow employment growth, a population and brain drain, a sharp spike in energy costs, volatile consumer confidence, a housing market on the verge of collapse, rising federal budget deficits, trade deficits, and interest rates, perhaps it's good news that the economy is still growing at all," Clayton-Matthews told state lawmakers and budget writers.

Although he offered the same revenue prediction as the other witnesses, Tuerck struck the most optimistic tone, saying he remains ''cautiously bullish on the state economy."

''Although Massachusetts lags the national economy, we see strong growth in state tax revenue through the rest of fiscal 2006," Tuerck testified. ''State tax revenue will fall off a bit during fiscal 2007, but will nevertheless reflect the continued underlying strength in the state economy."

To be sure, yesterday's predictions would have been welcome in 2001, when the state's revenue plunged by more than 14 percent. But the predicted 5 percent growth rate is also a far cry from the 10 percent annual growth rates of the late 1990s.

This fall, recent increases in tax revenues led the House and Senate to pass multimillion-dollar spending bills that include construction projects, government salaries, and dozens of local projects. Combined with proposals to expand healthcare coverage, the Legislature is on track to add as much as $1 billion in new spending.

Final versions of the healthcare proposals and spending bills are still being negotiated by state lawmakers.

Legislative budget writers and Thomas H. Trimarco, Romney's new budget chief, will use yesterday's testimony to settle on an official revenue prediction for fiscal 2007, the first step in a budget process that will last until next summer. Next month, Romney will unveil his budget proposal. The fiscal 2006 budget totals about $24 billion.

Trimarco told reporters after the hearing that the administration will have to be cautious in light of the revenue projections. In a phone interview later in the day, he emphasized that Romney is committed to cutting income taxes, but he opened the door to the possibility of a policy shift.

''The governor is clearly going to take a hard look at the tax cut issue. He's committed to it, but he also recognizes that a significant tax cut was accomplished with the Peterson case," Trimarco said, referring to the refunds of capital gains taxes. ''That will be taken into consideration as we deal with the tax issue going forward."

For 18 months, Romney has been urging the Legislature to reduce the state income tax to 5 percent. In 2000, voters approved a gradual lowering of the income tax rate, which was 5.85 percent at the time, to 5 percent. But in the depths of the state's fiscal crisis in 2002, the Legislature froze the rate at 5.3 percent. In a full year, the tax cut might cost as much as $600 million.

At yesterday's hearing, Widmer said, ''I don't see how we can afford a $600 million tax cut." He pointed out that even though the projected increases for fiscal 2006 and fiscal 2007 translate into about $1 billion in additional money each year, most of those dollars will be consumed by inflation and the growth in unavoidable expenses such as Medicaid, school aid, and pension costs.

Trimarco agreed that much of the new money is already spoken for.

''The cautionary tale is that we have a lot of fixed 'budget-busters,' fixed costs that are already built in," he said.

Scott Greenberger can be reached at greenberger@globe.com.