Concise overview of North Carolina’s fiscal situation

Thank you for joining us this morning.

North Carolina’s fiscal condition has received more attention than usual the past few weeks as lawmakers contemplate more aid for Western North Carolina and the state’s consensus revenue forecast predicts choppy waters in the years to come.

Some have warned of an impending “fiscal cliff,” while some legislators suggest they’re searching under the couch cushions to try to make ends meet.

What’s the real story, and what does the state have socked away if fiscal conditions deteriorate? The answer? – more than you might think.

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North Carolina, unlike the federal government, cannot run a deficit. If there’s a down year, then lawmakers have to either adjust tax rates, cut spending, or dip into reserves.

That’s why the state’s fiscal outlook, along with reserve account balances, has tremendous importance for annual tax policy and budget decisions that impact North Carolina businesses.

This month, the economists in the legislature and executive branch cautioned the good times may be coming to an end. The consensus revenue forecast predicts a $544 million surplus for the remainder of this fiscal year (which ends in June) plus a modest surplus next fiscal year. But the forecast shows a large deficit – $823 million – the following fiscal year, in 2026-27.

The state’s economists blame planned tax cuts: in 2026, individual rates are scheduled to drop to 3.99% and corporate tax rates are scheduled to drop to 2%.

Gov. Josh Stein called the potential shortfall an impending “fiscal cliff” that will challenge the state’s ability to fund education, health, and other priorities. While he has expressed continued interest and willingness to work with lawmakers, his initial recommendation is to freeze the General Assembly’s planned tax cuts.

Senate Leader Phil Berger noted to reporters that past governors claimed largely over the previous decade that tax cuts would precipitate a revenue crisis, but it never happened.

In fact, North Carolina has run surpluses for nine of the past 10 years, the only exception being 2021 during the pandemic. That equates to billions more dollars than expected pouring into state coffers, even as (or perhaps because) the legislature cut personal and corporate income tax rates. The “boom decade” that began in the early 2010s continues unabated to this day.

The legislature spent some of its surplus revenue over the years, including on priorities like infrastructure improvements and disaster recovery. But lawmakers also directed large sums to a host of reserve accounts. As you read media reports about fiscal cliffs or listen to legislators talk about scrounging for new money, the balances in these reserve accounts are an important piece of context you’re unlikely to hear about:

• Savings Reserve: $3.7 billion
• Stabilization and Inflation Reserve: $1 billion
• Economic Development Project Reserve: $703 million
• Clean Water Drinking Reserve: $200 million
• Hurricane Florence Reserve: $26 million
• Information Technology Reserve: $344 million
• Medicaid Contingency Reserve: $727 million
• Opioid Abatement Reserve: $41 million
• State Emergency Response/Disaster Reserve: $709 million

This list alone adds up to nearly $7.5 billion. That’s not even all of the reserve accounts nor does it include the well-capitalized State Capital and Infrastructure Fund. Yes, some of the funding in these accounts is set aside for active, in-process state programs. The Clean Water Drinking Reserve, for example, finances water infrastructure projects.

But much of it is fungible, break-glass-in-case-of-emergency dollars. Between these accounts and the half-billion surplus expected this year, North Carolina almost certainly does not face an imminent fiscal crisis even if the state must allocate larger-than-expected sums of its own money (as opposed to federal money) to Helene recovery.

Hard choices might become necessary in several years if the revenue forecast holds. But the past decade of near-consecutive surpluses suggests the forecast is not a certainty, and the state has a generous cushion to absorb short- and medium-term challenges if they arise.

It’s a far cry from the state’s fiscal condition at the onset of the 2008 financial crisis, when lawmakers really did have to take drastic action, including teacher pay freezes, to shore up the budget. Since then, legislators have made responsible choices, always with an eye towards long-term budget health, even when under fire from interests who wanted a return to the spend-it-if-you-got-it philosophy. 

We hope this adds some valuable context to budget discussions in the spring of 2025, the media reporting (or lack thereof), and any conversations you have with your colleagues or peers.