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Tennessee Gov. Bill Haslam

NASHVILLE -- Gov. Bill Haslam has ordered state agencies to slash discretionary spending by up to 7 percent as his administration builds the new budget it will present to legislators early next year.

The move comes with the state's general fund, which pays for most functions of government including education, showing a $302.4 million revenue shortfall for the fiscal year 2013-2014 budget that ended June 30.

Administration officials on Friday confirmed the directive given to departments. Agencies' plans are due Monday. How much actually winds up getting cut and where in Haslam's fiscal year 2015-2016 budget will depend on a variety of factors.

But after years of reductions, Tennessee may be on the verge of having to make tough choices next year, possibly abolishing entire programs, said one top lawmaker.

"I think that could be the case," said Senate Finance Chairman Randy McNally, R-Oak Ridge. "In the past they've done some of that trimming through things like over appropriations [automatic holdbacks of funds] and positions unfilled for years."

McNally added, "I think all of that's gone now."

He said the major problem with the state revenue picture is business franchise and excise tax collections.

In his Aug. 15 directive to departments, Finance Commissioner Larry Martin explained that "funding the services of state government within available revenues continues to be [a] challenge. As a result, it is expected that reductions will again be required in order to balance."

Departments and other agencies are submitting plans in two parts. The first is to show how they would cut 7 percent. This is beyond the money the state customarily expects won't be spent over the course of a year, known as the "over appropriation."

The second part of the directive asks departments to provide a list of base reductions they would use to offset any proposed increase requests in areas officials consider vital.

Business taxes causing the problem

Flagging collections in Tennessee's two main business taxes have been the main culprit behind recent problems.

The franchise tax on business property and the excise tax on corporate income forced Haslam, a Republican, and lawmakers last April to cut $276 million from the fiscal year 2014-2015 budget the governor presented to lawmakers last January.

As a result, Haslam, whom many think has national ambitions, was forced into the embarrassing position of breaking a promise he made in his State of the State speech: Providing teachers, state workers and higher education employees with 2.5 percent raises.

The total FY 14-15 budget, which took effect July 1, is $32.4 billion and 2.4 percent less than the last fiscal year's $33.2 billion spending plan. Some $12.9 billion in this year's budget comes from the federal government, according to a legislative analysis.

Last week, Haslam and other top officials were in New York where Wall Street's three major bond rating agencies voiced concerns about problems with Tennessee's business taxes.

"Because that was the cause of our shortfall, there were quite a bit of questions about that in terms of cause and whether we see a long-term trend there," Haslam told reporters in a conference call Thursday after meeting with Fitch Ratings Inc., Moody's Investors Service and Standard & Poor's Financial Services.

The governor said part of the franchise and excise tax declines were due to overpayments made last year by businesses, which make payments in advance based on estimates.

"And second," Haslam added, "the fact the businesses are getting a lot more strategic about how and what they pay. We're trying to do work on our side to make sure we collect what we should. We had that conversation with all three agencies."

He said one of the "key points" made to the bond rating agencies "is that last year when Tennessee had a surplus, we reacted in the right way and didn't spend all that. This year we had a shortfall [and] we reacted in a way we have to by making cuts."

Rating agencies "realize that revenues will rise and fall," Haslam said. "They want to see if you are willing to adapt regardless of the circumstance."

Haslam mentioned nothing to reporters about the latest efforts to "adapt" with the spending cut directive, which the Times Free Press obtained a day later.

A simple explanation?

The administration was put on the defensive last spring by legislative Democrats who said figuring out the problem with franchise and excise taxes should be a fairly simple thing. Rep. Mike Stewart, D-Nashville, said all they had to do was take a look at the top 50 corporate payers of the tax.

State Revenue Department officials are now studying the problems, with recommendations expected in January.

But a Nashville-based tax attorney, Brett Carter, agreed with Stewart last spring in an article he wrote for State Tax Notes, a national publication. And Carter thinks he's figured it out a "likely" answer to the cause that indeed does appear fairly simple.

Using publicly available court documents, Carter points to the 2012 relocation of McKesson Corp.'s Southeastern pharmaceutical distribution center from Memphis across the state line to Olive Branch, Miss. Tennessee tax policies had previously resulted in litigation and Carter delved into the material.

While McKesson is just one company, Carter wrote, the court documents reveal the move was highly important because "McKesson's facility served as the primary distribution channel for pharmaceutical companies throughout the United States and [the move] resulted in millions of dollars in franchise and excise tax revenue in Tennessee."

Carter said the companies may have been paying more than $150 million in Tennessee franchise and excise taxes and saw a major opportunity to slash their costs by moving to Mississippi, which has lower taxes.

McNally said state lawmakers are looking at that and ways to restructure the taxes.

Contact staff writer Andy Sher at asher@timesfreepress.com or 615-255-0550.

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