The Arizona Supreme Court last Thursday issued a ruling that puts the future of Proposition 208 on shaky ground.
Narrowly adopted by voters last November, Proposition 208 sought to increase Arizona’s top state income tax rate by more than 77 percent, ratcheting the rate up from 4.5 percent to 8 percent and taking the top rate to one of the nation’s highest.
Many small businesses, which file their taxes as pass-through entities, would have been impacted by the tax hike since they pay their taxes on the individual tax code, not the corporate tax code, which has a 4.9 percent income tax rate.
Since the proposition’s passing last year, the Arizona Legislature passed and Gov. Doug Ducey signed a phased-in 2.5 percent flat income tax for most taxpayers. Under the new tax schedule, the state income tax cannot exceed 4.5 percent once any surtaxes are factored in, such as the 3.5 percent surtax included in Proposition 208.
The court ruled that the proposition’s attempt to bypass expenditure limits in the state constitution by classifying the new tax revenues as “grants” was unconstitutional.
The court noted that Invest in Education — the proposition’s writers — had “requested a review of the initiative’s language from Arizona’s Legislative Council, who opined that the provision defining Prop. 208 money as grants and not local revenues was ‘likely invalid’ because it conflicted with the Education Expenditure Clause [of the state constitution].”
“Despite receiving this legislative feedback before the initiative was certified for the ballot, Invest in Education declined to modify the text of this initiative or to pursue an initiative to amend the constitution,” Justice Robert Brutinel wrote for the majority.
While the Supreme Court found the attempt to dodge the expenditure limits unconstitutional, it could not determine whether the revenues would indeed exceed those limits. The court left that task to a lower court, which must strike down Proposition 208 in its entirety if the revenues are found to exceed the limits.
Proposition 208 was strongly opposed by the business community, and several organizations filed amicus briefs before the Supreme Court arguing the proposition was unconstitutional.
The Arizona Chamber of Commerce & Industry and the Arizona Tax Research Association together filed an amicus brief.
“We are gratified that the Arizona Supreme Court affirmed that out-of-state special interest groups can’t make an end-run around our state constitution through passage of a regular statute – they’d have to instead amend the Arizona Constitution, which the proponents failed to do,” Chamber President and CEO Danny Seiden said. “We look forward to the trial court determining whether the new taxes in Proposition 208 will exceed the constitution’s expenditure limits.”
ATRA was equally pleased with the decision.
“Claiming these surcharge taxes were not tax revenues but rather ‘grants’ is not only facially unconstitutional, it would have encouraged further watering down of constitutional taxpayer protections with statutory measures,” ATRA said in a statement.
Partially dissenting from the court’s opinion, Justice Ann Scott Timmer said that “The framework imposed on the trial court for deciding whether Prop. 208 is unconstitutional almost certainly doom[s] the measure.”
Gov. Ducey, an opponent of Proposition of 208 who advocated strongly for the legislatively adopted reform to blunt the damage of the big tax increase, was pleased with the court’s decision.
“There is a clear legal path to Prop. 208 being knocked down entirely, it’s only a matter of time,” Ducey said. “Today’s ruling is a very positive one for the state and for taxpayers. The out-of-state proponents of this measure drafted bad language, and now they are paying the price.”
Chamber Business News previously reported on the proposition’s heavy reliance on out-of-state donors. At the time of reporting, only .7 percent of contributions to the initiative campaign were from individual donors in Arizona.