BY GOVERNOR PAUL E. PATTON
WEDNESDAY, FEBRUARY 5, 2003 - 7:00 p.m.
President Williams, Speaker Richards, and members of
the General Assembly, members of the Judiciary, and other constitutional
officers, my fellow Kentuckians.
I once again thank the people of Kentucky for
selecting me to serve as their governor these past seven years.
I thank the members of the Kentucky General Assembly for the privilege of
working with you.
Iíve served in the best of times - and the worst of
times. And now is the worst of
With the benefit of hindsight, itís now clear that,
beginning in about July of 1994, the economy of the nation and Kentucky began to
boom. State revenue increased
dramatically in fiscal year 1995. In
fact, state revenue for six consecutive years was abnormally high.
Virtually every other state experienced this same phenomenon.
The boom is now over. Real revenue growth is practically non-existent.
Most of our sister states are experiencing the same situation.
The states are, as a whole, in the midst of the greatest fiscal crisis
since World War II. In Kentucky,
for the first time since 1954, revenue actually declined from one year to the
next. Weíre well into our third year of historically slow growth.
The prospects for recovery are dismal at best.
There is no light at the end of the tunnel.
It is indeed our darkest hour Ė and it can be the
greatest opportunity to gain on our sister states during my administration.
My fundamental goal as Governor has been to set Kentucky on a path to
achieving a quality of life and a standard of living above the national average
by the year 2020. Because some
states are allowing this nationwide fiscal crisis to take them backwards, those
states which donít cut back on their commitments can make a quantum leap in
their effort to gain competitive advantage.
Kentucky has that opportunity - if we have the wisdom and the strength.
Yes, we have severe budget problems, but weíre not
alone. Forty-eight other states are
experiencing, or have experienced budget shortfalls. Virginia has a 10 percent budget shortfall; Massachusettsí
is 15 percent; California, 20 percent. The
average nationwide is ten percent.
Ours is about 6 percent.
How we and our sister states handle this crisis will
determine where weíll be relative to each other economically and socially
twenty years from now.
Some states have taken the easy road and cut
education, social services and public protection programs; stopping progress
and, in fact, going backwards.
A few states have rejected these cuts and increased
taxes to keep their vital services functioning. What will Kentucky do? Thatís
what youíre assembled here in Frankfort to decide.
Before I get to our immediate problem, let me review
for a moment our past.
While Iíve been governor, we have moved Kentucky
forward. We saved the Kentucky
Education Reform Act. We made new
commitments to postsecondary education. We
addressed adult education and early childhood development.
We improved the environment in the Commonwealth.
We cut our welfare rolls in half. We
created 180,000 new jobs. Weíve
committed to rebuilding our farm economy and that of the coal-producing regions
of the Commonwealth.
Weíve made Kentucky safer, making dramatic
improvements in our juvenile justice system.
We have better trained police officers, better-equipped State Police, and
5,401 new jail and prison beds with 900 more on the way.
Weíve cut the state payroll by over a thousand
employees and weíve made government more efficient by 572 million dollars
through our Empower Kentucky initiative.
We put some of the excess revenue of the boom years
into our Budget Reserve Trust Fund, about 280 million dollars and we had over
400 million dollars in reserve in other Dedicated Use funds.
We refunded 287 million dollars of taxes which had
been collected and spent by previous administrations under laws which have been
declared unconstitutional by the courts. We
made 600 million dollars of cash investments in infrastructure that will improve
the economy and the quality of life of Kentuckians in the years ahead.
And we returned much of this excess revenue to our citizens as tax cuts;
26 different tax cuts. Over 2
billion dollars so far. Almost 500
million dollars in fiscal year 2004.
Thatís the reason that the percent of personal
income Kentuckians are devoting to government has gone down 7 percent
since I took office.
Iím proud of the fact that weíve reduced
the amount of our peopleís income that theyíre devoting to government; but I
also realized that this is the genesis of our current problem.
Let me frame the fundamental issue of the debate that
confronts us. Corporate support for
state government is about 350 million dollars below what it should be compared
to what it was in 1990.
We in Kentucky have historically had low
corporate taxes, generally providing about 10 percent of the General Fund.
Thatís what it was in 1990 when Corporate Kentucky lead the way for
By 2002 corporate support of the General Fund had
decline to 5 percent, 50 percent lower than it was in 1990 Ė half as
much. Individuals are now paying
for 21 percent more of the General Fund than we were paying in 1990.
That shift in whoís paying the cost of state
services is the fundamental issue in this debate. This shift in relative tax burden brings up an even more
fundamental question. Should
corporations doing business in Kentucky and using the services of state
government pay any taxes at all? If
so, how much?
The fact is that large national and international
businesses operating in Kentucky donít have to pay corporate taxes if they
donít want to! All they have to
do is to operate in Kentucky as a limited liability business!
Perhaps we should first define the term businesses.
There are two fundamental types of business structures.
One is businesses owned by one or more individuals who assume all the
responsibility of gain or loss of the business and pay Individual Income taxes
on the profit.
The other is limited liability businesses; one or
more people investing to conduct business on a scale that they are not wiling to
do as individuals if it means risking all they have.
To make these kinds of investments, their liability for losses must in
some way be limited. The corporation has historically been the business structure
used to achieve these ends. These
type businesses have historically paid taxes to the governments that granted
them limited liability protection and, of course, their owners also pay taxes on
the income they receive as dividends. This
issue of double taxation is at the center of the present debate.
Thereís lately emerged a new business entity, the
Limited Liability Company, which is a partnership and isnít required to pay
taxes directly. Its income is passed directly to its owners and the owners pay
the taxes. This type business
entity enjoys the limited liability protection of a corporation but avoids the
burden of double taxation.
In 1994 Kentucky authorized limited liability
companies. Eight years later, we
have over 33,000 of these companies doing business in the Commonwealth.
Most major corporations operating in Kentucky are conducting at least
some of their business with limited liability companies.
Their stockholders live all over the world.
Only those stockholders who are legal Kentucky residents, pay Kentucky
taxes on the corporate profits they receive as dividends.
Typically Kentuckians would own less than 2 percent of a large, national
Therein lies the essence of the debate about
corporate support for state government. Should
corporations pay anything for services such as the education of their workforce;
the protection of their property; the use of the stateís infrastructure?
Until recently, in Kentucky and all other states, the answer has been
yes. Today, in Kentucky, that
answer is, only if they want to.
If all the owners lived in Kentucky and paid Kentucky
Individual Income Tax, this probably wouldnít be an issue.
But what if the owners live in Tennessee?
Or Florida? Or France?
Shouldnít they pay something when they profit from our tax money?
way I see it, unless the current laws are changed, there will be virtually no
direct corporate support for state government in the very near future because I
donít know too many businesses who are going to continue to pay taxes they
donít legally have to pay. We
need to decide, once and for all, should corporations operating in Kentucky
under any organizational structure pay taxes.
We need to make that decision now; in this session.
making any decision of this nature, we need to look at what our neighbors are
All our close neighbors have higher corporate taxes
than Kentucky and some of them are making them even higher as they look for ways
to deal with their budget shortfalls.
If we look at our neighbor to the south, we
find that Tennessee, according to the United Statesí Census Bureau, gets 15.3
percent of its tax receipts from Corporate Income and License taxes.
They also had an 8.2 percent budget gap and they raised taxes 933 million
dollars, including an additional 127 million dollars on corporations, to solve
their problem. And now I understand that the new governor of Tennessee is
calling for more taxes.
Illinois gets 10.8 percent of its revenue directly
from corporations. They also raised
taxes 370 million dollars and still have a 592 million dollar budget shortfall.
Indiana gets 7.1 percent of its revenue as
Corporate Income and License taxes. They
raised taxes a billion dollars even though theyíre getting a quarter billion
dollars from Kentuckians who like their riverboats.
Ohio gets 15.3 percent of its revenue directly from
corporations. They raised taxes 797
million dollars including 216 million dollars from corporations.
I read just last week where Governor Taft was calling
for more tax increases to plug another 720 million dollar budget gap for
next year. In calling for that tax
increase, Governor Taft said to a joint session of the Ohio legislature, ďThe
actions Iím asking you to take will be painful, but the consequences of
inaction are unacceptable.Ē I
make that same statement to the members of the Kentucky General Assembly.
Governor Huckabee of Arkansas said to a joint session
of his legislature, ďAnd if you
deem that all new revenue sources, your proposals or mine, are dead on arrival,
then youíll be saying that teacher pay increases are dead, scholarships are
dead, medicine for the elderly is dead, that long (prison) sentences are dead,
and that weíll have to have a massive early release of thousands of inmates
from the system.Ē He went on to
say, ďTo be blunt, our problems arenít that simple and the answers arenít
Again, I echo that message to the Kentucky
legislature and the people of the Commonwealth.
We in Kentucky have yet to permanently address our
problem. That is the challenge
presented to the Kentucky General Assembly.
I hear your opposition to new taxes.
I donít like to have to even talk about them myself.
But do we know something that our neighbors donít know?
Does someone in the General Assembly have a silver bullet I havenít
found? If you do, share with me;
and the people of Kentucky. Our
administration solicits your advice.
Weíve dealt with this budget shortfall for over two
years. Since November of 2001
weíve managed shortfalls of 872 million dollars!
Weíve made dramatic cuts in the administrative cost of state
government. Weíve reduced
payroll. Weíve reduced vehicles;
weíve cut travel. Weíve reduced
the use of personal service contracts.
So far, there have been very few programmatic
reductions. Our people have yet to
feel the pain of their government not living up to its commitments; with the
single exception of the consequences of an underfunded Corrections budget.
As I review my administrationís handling of this
crisis, I think weíve done pretty well. I
think our job is to keep our people from feeling the pain.
But we can no longer shield our citizens from this crisis.
You adopted a very progressive budget for
Fiscal Years 2001 and 2002 in the 2000 legislative session.
But the budget shortfall for 2001 was 185 million dollars.
We tightened our belts and absorbed that shortfall without cutting
services. In 2002 the budget shortfall was 687 million dollars, 9.4
percent of the budget. I cut our
postsecondary education and our Medicaid program two percent and all the rest of
government 5 percent Ė but I didnít cut our elementary and secondary
schools; the education of our children is too important.
In the 2002 session I proposed a continuation budget
for this year and the next, based on a budget for last year which had already
been cut 5 percent in every area of state services except education and
Medicaid. That budget had no
expansion of services, no real raises for our teachers or state employees, no
operating increases to cover inflation. When
rent went up, we told our agencies to reduce space.
When utility bills went up, we told our managers to turn down the
thermostat. Last December we
announced other cost-saving measures which will save over 30 million dollars
more without cutting services that affect the average Kentuckian. But we can no longer avoid the inevitable.
We must now restore the 500 million dollars a year that weíve returned
to the people in tax cuts while Iíve been governor or; drastically cut
By the first of July, all our reserves will be gone.
Weíll be almost 400 million dollars short of what it takes to fund the
2004 budget I proposed last year. Weíll
need another 103 million dollars to prevent more cuts in Medicaid and to keep
all our convicted felons behind bars until theyíve served their time.
If weíre going to really restore the financial
health of the Commonwealth, weíll need another 92 million dollars to rebuild
our reserves and continue to invest 6 percent of our revenue in our schools and
Thereís no doubt that you can take 400 million
dollars out of the budget I proposed last year. Thereís no doubt you can force even more cuts in Medicaid.
I donít see how you can refuse to fund our prisons.
But you can certainly refuse to rebuild our Budget Reserve Trust Fund and
stop our infrastructure investment program.
Thereís no doubt that you can push a lot of the problems off on the
next governor and the next General Assembly.
There is no doubt that you can adjourn without addressing the problem.
There is no doubt you can pass a fictitious budget.
But you, I, or the people of Kentucky cannot escape the fact that we
either restore the revenue lost when we cut taxes in 26 different ways or we
reduce the teachers in our classrooms or increase college tuitions or cut more
people off Medicaid or let more felons out of prison or reduce our services to
neglected children or let the weeds grow in our state parks or let our
infrastructure deteriorate; or lose a lot of dedicated state employees; or a
combination of all of the above. Those
are the choices we face.
Iíve made my choice. Iíve already experienced the trauma of releasing felons
from prison before theyíve paid their debt to society. Iíve seen them go out the very next day and abuse the good
people of Kentucky. Iíve faced
the reality of depriving Kentuckians of essential health care.
Iíve been to the mountain of cutting the very heart
and soul out of government; and Iíve returned sickened, saddened and resolute.
I can stomach no more.
If that is to be the future of Kentucky, that
future will be your legacy Ė not mine.
And so I propose to you tonight a budget which
doesnít expand our government Ė but it does live up to our existing
And I propose to address one of the fundamental
problems we face, the structure of our tax laws.
I propose to revise our tax code to make it more
fair, to keep us competitive for economic expansion, to make our revenue stream
more stable, to make it grow more closely with the growth of our society and to
make it adequate to meet our current commitments.
I propose 17 specific changes which will close
loopholes and raise some taxes and cut others.
The net increase in state revenue will be 573 million dollars.
But the centerpiece of my proposal is to close the
biggest loophole of all, the loophole that permits huge multi-national
corporations to operate in Kentucky while paying practically no taxes to pay for
the government services they use everyday.
Iím not here to criticize the businesses that make
our economic prosperity possible. Iím
here to criticize a corporate tax code that has become dysfunctional.
All I want to do is change the way we tax these
corporate citizens to make it more fair to all our businesses.
In 2000, 37,000 corporations filed corporate tax
returns in Kentucky. Two of them
paid 10 percent of our Corporate Income Tax.
Eleven of them paid 10 percent of our Corporate License Tax.
That canít be fair.
These kinds of inequities are possible because we
have a corporate tax code that has so many loopholes that it enables a corporate
citizen to organize itself in ways so as to legally reduce its tax liability to
practically nothing. Again, I want
to emphasize that this is not a criticism of corporate Kentucky.
Our large corporations have every obligation to their stockholders to pay
only their legally binding tax obligations.
The criticism is of us, the elected leaders of Kentucky who made this
possible. We have created
these loopholes. We have
every reason to expect our corporate citizens to use them.
In 1990 we increased taxes by todayís equivalent of
one and a quarter billion dollars a year to pay for an educational program that
we didnít know for sure would work. Surely
we will increase taxes half that much to pay for it after we know it does work.
For my part, Iím there. But the decision is not mine.
The decision is yours, the 138 men and women elected by your peers to
decide on their behalf, the future of Kentucky.
I realize that corporations, like individuals, pay a
lot of different taxes like sales tax and property tax.
As far as I know the relative amount of these taxes corporations pay
hasnít changed. Tonight I will
concentrate on those taxes that are paid only by corporations and those taxes
paid only by individuals and point out how the distribution of the tax burden
has shifted since 1990.
There arenít many loopholes in the Individual
Income Tax laws that the average Kentuckian can take advantage of.
Our corporate tax laws are full of loopholes.
Our present corporate tax system allocates a portion
of a national corporationís total income to Kentucky based on three factors
Ė payroll, sales and capital employed in Kentucky. My proposal uses these same three factors to determine a
corporationís fair share of support for state government.
It just applies them in a different way.
The present system is so full of loopholes, a
corporation can almost wipe out its tax liability legally.
Closing those loopholes is the objective of replacing
the Corporate Income Tax with the Business Activity Tax.
This is based on a companyís payroll and sales in Kentucky.
This tax will apply equally to every business
operating in Kentucky which enjoys the protection of limited liability except
professional partnership; doctors, lawyers, engineers, accountants and other
professional services. It does not
apply to sole proprietorships or general partnerships.
This change is not intended to affect the tax burden of Kentuckians who
own a business which passes its income through to its owners.
Any Business Activity Tax thatís paid by a
Subchapter S Corporation or by any company that passes its income
directly through to its owners; that tax is taken as a direct credit on the
Individual Income Tax of that owner. Now
I want you to listen to that statement very clearly.
Any Business Activity Tax paid by a pass-through company is deducted
dollar for dollar from the Individual Income Tax owed by the owner.
Most Kentucky companies owned by Kentuckians are pass-through
companies. This change should have
no effect on a Kentucky-owned business thatís already paying its fair share of
the cost of state government.
I also propose to increase the Corporate License Tax
from 21 to 41 cents per $100 of capital employed in Kentucky and extend it to
apply to these same businesses. What
weíre trying to do is create a level playing field where all businesses, large
or small, are playing by the same rules, paying the same taxes, and helping to
keep our education programs improving. Weíre
also maintaining the ability of all Kentucky business owners who are
presently avoiding double taxation by the use of pass-through companies to
maintain that savings.
In 1990, corporate leaders like John Hall, David
Jones, and Oz Nelson led the businesses of Kentucky as they came to you and said
ďgive us better schools Ė raise our taxes to pay for them.Ē
And you responded. Since 1990 the taxes that individuals pay have gone up 123
percent! The taxes corporations pay
have gone down 9 percent.
And let me emphasize one more time, I am not
criticizing our business community. Iím
criticizing our corporate tax code which is fundamentally flawed.
The limited liability company loophole was created in
1994. Few people realized what the
changes did. Some corporate
executives are just now beginning to understand how to reorganize a company and
virtually eliminate state taxes. Thatís
whatís causing the stampede to the Secretary of Stateís Office to file the
papers to establish limited liability companies; the vehicles to tax-free
heaven. I know this subject is
complicated. Itíll require a
complicated solution. If you want
to know more, itís all right here in this ďhot off the pressĒ document, Securing
Weíve sent a copy to every legislator.
Itís available on the web to anyone whoís interested.
It documents in detail my proposal and my reasoning.
I urge every Kentuckian to read it.
Itís my responsibility to execute the programs the
legislature has mandated so long as we have the money in the bank; and we still
have money in the bank. Itíll run
out about July. I will then have no
choice except to make cuts that will upset people more than the early release of
felons. Then you and the people of
Kentucky will see what an emasculated government really looks like.
I already know.
You must now decide. If we raise no taxes, weíll put Kentucky back a generation.
If we raise taxes a little, itíll be like a narcotic; mask the pain but
not cure the disease.
If we address the fundamental problem and restore the
revenue we didnít need during the good economic times, we can move Kentucky
forward during the next administration and beyond and surpass those other states
whose political leadership is more interested in the next election than they are
in the next generation.
I think Iíve proven that I understand how important
businesses are to the people of Kentucky.
I would never do anything to hurt the business
climate in the Commonwealth. Thatís
why I wonít support cutting education. Providing
good schools is the single most important thing we can do to make Kentucky more
The other side of this coin is to cut my budget to
fit existing revenue. I am not
going to participate in cutting government services anymore. Weíll leave that up to the people who say we donít need
more revenue. They must draft the
budget with no new revenue.
The people have the right to see a budget with no new
revenue. I know what it looks like
and itís ugly. Itís cruel.
Itíll destroy all the progress weíve made these last seven years.
I will not support it. I
will oppose it. I will not put my
name on it. It will be your budget.
Iím proposing a sound budget.
A budget that funds our current commitments.
A budget that restores our fiscal integrity, protects our bond rating and
begins to rebuild our budget reserves. My
budget will fully fund our commitment to Basic SEEK for next year at the level
of 3,234 dollars for every student in average daily attendance in our schools;
it will fully fund the current estimated cost of the Medicaid program with no
more cuts beyond those weíve already begun to initiate.
And itíll fully fund our Corrections Department so there will be no
more early release of felons.
And my budget will continue our policy of investing 6
percent of our income in our infrastructure; the framework around which our
economy grows. Iíve said it
before and Iíll say it again. No
matter how bad things get, we must continue to invest in the future, just like
those who came before us. Itís
especially important to invest now because interest rates may never be lower. And if we stop growing our infrastructure, weíll stop
growing our economy.
I heard the story of the farmer who decided to
economize so he slowly reduced the feed to his mule; just a little bit less
everyday. After a month his
neighbor asked him how his economizing effort was going. ďWell, it was going great,Ē the farmer said.
ďI had him completely weaned from food and then the darn thing died!Ē
Well, thatís what happens when a society stops
investing. Itís just about the
same as eating your seed corn.
We have a simple choice. Pay now or pay later. Statesmen
will step up to the plate and pay now. Politicians
will make the people pay later.
Our colleges and universities are our future,
so my budget will fund the new health services campus at the University of
Louisville and the Biological Sciences Pharmaceutical Complex at the University
of Kentucky. Itíll fund the
Business Technology Center at Eastern; the Old Science Building Renovation at
Northern; the Student Center Restoration at Morehead; the Science Building
Replacement at Murray; the Thompson Science Complex replacement at Western; and
the renovation of Hathaway Hall at Kentucky State.
Itíll fund new KCTCS buildings at Henderson and
Madisonville and Ashland. Itíll
fulfill the promise of 100 million dollars made two years ago to our schools for
new buildings, and promises another 100 million dollars for the next biennium;
and it funds Bucks for Brains.
We must continue to grow our economy and have plenty
of land set aside for businesses to locate and expand, so my budget will fund
the new business park in the Purchase and one in Hopkinsville as well as finish
the convention center there. Itíll
pay off the loan on the Glendale industrial sight in Hardin County and provide
the Economic Development Cabinet the ED bonds they must have to keep our economy
And itíll fund our 2020 rural water initiative and
keep us on track to reach our goal of providing every Kentuckian with access to
high quality water by the year 2020.
And it finishes the six new golf courses you
authorized in 2000.
And it funds the new executive office building which
will let future administrations get on with the job of restoring and preserving
our beautiful State Capitol building.
And I support and urge you to support the judicial
branchís efforts to construct the 23 new courthouses in rural Kentucky. We
absolutely must continue this program to provide every court in the Commonwealth
with state-of-the-art facilities.
And my budget recognizes the importance of our major
urban areas to all Kentuckians. My
budget begins the multipurpose activities center in Northern Kentucky and
finishes Rupp Arena and keeps our Kentucky State Fairgrounds in the first tier
of large convention centers in America!!!
My budget is a responsible budget; a humane budget; a
budget that keeps our commitments.
Those who canít see my vision for Kentucky can have
the ugly budget of no new taxes. If
you canít see very far, ugly doesnít look too bad.
If you can see to the horizon, you see a sunrise; you see the future.
To the people of Kentucky, I ask you to study my
budget and the comprehensive tax reform needed to fund it.
Donít greet the mention of increased taxes with a knee-jerk reaction.
This Business Activity Tax, in all likelihood, wonít affect your pocketbook
one dime. It will most assuredly
affect the schools in your communities, the social services of your neighbors,
the safety of your streets. If you
agree with me, call your state senator and state representative.
They really want to know your views.
All theyíre hearing from now are the uninformed or the selfish special
interests that only care about today Ė and themselves.
The flat earth, no new taxers will scream cut
spending, cut spending and then theyíll scream donít let felons out of jail.
But keeping criminals off the street is where weíve increased spending
65 percent. Room for 5,401 new inmates; and 900 more beds on the way.
Thatís one reason the crime rate in Kentucky has dropped 10 percent.
Weíve increased spending on Medicaid by 63 percent
and now Iíve had to cut Medicaid 250 million dollars and the cut spenders are
calling my office demanding that we not cut the reimbursement rates of their
friends in the health care field.
Weíve increased spending on education 29 percent
but our teachersí salaries have already dropped from 27th to 34th
in the nation. And the cut spenders
scream, donít cut education.
Since Iíve been governor, inflation has caused
costs to go up 19 percent but the increased costs of all the rest of state
government has increased by only 13 percent, only two thirds as much as the
average increase in costs in our nation as a whole.
My friends, the politicians can demagogue new taxes.
But they offer no solution. I
have but ten more months to serve. I
have but one more challenge to meet; - to turn over to my successor a state
government that has a balanced state budget, a sound fiscal position, and the
ability to meet its existing commitments. I
canít do that by myself. I need
your help; you here in the legislature and you out there in Kentucky.
For seven years, Iíve tried my best to do and
advocate what was right for the long-term welfare of all the people, not
the short-term gain of the special interests.
I have supported Labor when I thought Labor was
right. I have opposed Labor when I
thought Labor was wrong. The same
goes for business.
Iíve tried to be the advocate for the people.
Thatís the role I play tonight. I
believe history will prove me right.
Goodnight, God bless you, and God bless America.