New Indiana law raises questions about local income tax-backed bonds
7 min read
Matt Gush – stock.adobe.com
A new Indiana law raises questions about the security of local income tax-backed bonds, as it includes a provision that will end local income taxes at the close of each calendar year.
And the law as currently written contains no clear protections for bondholders from the changes it makes to the income tax structure, Moody’s Ratings said in a sector report last week.
Starting in 2031, the local income tax of up to 2.9% will expire at the end of each calendar year and will require the passage of a new ordinance to be continued for the next year, whether at a higher, lower or equal level, according to
That provision creates uncertainty around future local income tax-backed bonds and may undermine the stability necessary for long-term financing.
“The current language as it stands does present some confusion,” said Ryan Patton, assistant vice president-analyst at Moody’s. “We don’t know exactly what would happen, but if the ambiguity were to continue, there could be some negative consequences.”
But he noted there’s time before those provisions kick in, and he said Moody’s expects the issuers it rates to continue to pay their debt service.
“We expect that the state would likely modify the language to ensure that there’s continuity of income tax collections for these places with debt outstanding,” he said. “There is time within the next legislative session to clarify that. It seems like that’s generally been the practice and intent of the state, to provide these kinds of protections for bondholders.”
Moody’s said in its June 16 sector report that while the new law allows more flexibility to levy local income taxes starting in 2028, other provisions of the law may make income tax increases tough to implement in practice.
Moody’s highlighted tweaks to Indiana’s local income tax structure, among other changes. The rating agency said the law “does not articulate clear protection for bondholders from upcoming changes to the income tax structure. Some bonds issued by Indiana cities or counties are backed solely by the pledge of specific income tax allocations that are now set to expire.”
Gov. Mike Braun signed the law, which also
“This is historic property tax relief,” Braun
The law mostly passed through support from Republicans, with 65 yeas to 29 nays in the state House and 37 yeas to 10 nays in the state Senate. But a handful of legislators crossed party lines on the bill.
“I supported Senate Bill 1 because it provides homeowners with some much-needed tax relief while preserving funding for my community,” said state Rep. Wendy Dant Chesser, D-Jeffersonville, noting that Clark County — in southeast Indiana, near Louisville, Kentucky — is the only one of 92 counties to maintain a positive net levy under the law.
“Clark County will see a roughly $31.4 million increase over the next three years, and our public schools are included in that estimate,” she said. “On the flip side, my constituents have been asking for property tax relief since their tax bills are skyrocketing. Families are really struggling right now, and I believe SB 1 is a balancing act between preserving local services and helping our families.”
State Rep. Andrew Ireland, R-Indianapolis, voted against SB 1, but not because he doesn’t support the goal of property tax relief, he said.
“I fundamentally believe that property tax is a wealth tax that unduly burdens retirees and needs to be eliminated,” Ireland said. “SEA 1 makes positive improvements to the current system, but it also requires local governments to resist the urge to raise other taxes to offset the cuts. I voted no because I have zero confidence in the Democrat supermajority on our local Indianapolis City-County Council to act responsibly.”
Other critics of the law voiced concerns about provisions such as the one requiring political subdivisions to wait one year after the expiration of previous general obligation bonds to issue more GO bonds. SEA 1 also bans schools from issuing more bonds, entering into a lease or extending a referendum tax levy for one year after the last year in which their previously-approved project levy applies.
“Any kind of tax relief is going to have tradeoffs,” said Stephanie Wells, president of the Indiana Fiscal Policy Institute, an Indianapolis-based research nonprofit focused on taxation and spending policies. “These tradeoffs are complex, but at the end of the day, SEA 1 provided only limited relief to property taxpayers, while substantively diminishing the ability of local units to maintain services.”
Wells said schools in growing areas are going to feel the constraints most acutely.
“The changes to local government and school funding from SEA 1, combined with state budget cuts this year, will lower the level of services that many Hoosiers have come to rely on,” she said.
Wells also pointed to a trailer bill, HEA 1427, which “made substantive changes to the tax relief for business personal property tax payers that was originally contained in SEA, primarily due to local debt obligations already in place.” She predicted that the state will continue to grapple with business personal property taxes going forward.
Patton said the Indiana cities and counties that Moody’s rates have strong fund balances and are generally in a good position to adapt to slower revenue growth as it’s phased in. But he acknowledged the law has credit implications for Indiana issuers.
“The new limitations on property tax revenue are credit negative for local governments,” he said. “Lower revenue growth means less flexibility to keep up with inflationary costs, to tackle projects like deferred maintenance.”
School districts will be particularly impacted.
Patton said it “seems like a real possibility” that with more bond referendums likely under the new rules, and
“As I look back at Indiana’s school bond elections over the past ten years, about six out of ten bond elections were approved by voters,” he said. “And then if you look at more recent history, just within the past five years, it’s about four in ten bond elections approved by voters. So there’s definitely a scenario where the new provisions make it more difficult for schools to complete capital projects.”
Moody’s also noted the elimination of a category of local income tax dedicated to property tax relief, and the circuit breaker cap on the total property tax rate, mean some of that revenue will be lost as the tax shifts back to the property tax base.
The state’s Legislative Services Agency projected that South Bend and Mishawaka, which are both rated Aa2 by Moody’s, would see a roughly 10% year-over-year decline in property taxes when the change takes effect in 2028. Gary would see a nearly 20% decline in property tax revenues under the law.
“It tends to go by county,” Patton said. “Some of the calculation of the circuit breaker works at the county level, so Lake County in northwest Indiana — in particular, cities in Lake County — are some of the most impacted.”
Moody’s does not rate Gary, which recently got some
Another concern going forward is that the law alters the income tax structure from one in which cities receive income taxes from a base that includes the whole county. That means some cities benefit from sharing a county with wealthier municipalities.
Under the new rules, cities will have more authority to implement an income tax; they won’t have to go to a county income tax council. But the base will be smaller, Patton said. If the city had been benefiting from being in a county with other wealthier areas that added to the base, that will no longer be the case.
The Indiana Fiscal Policy Institute’s Wells said local units took less of a hit under the final version of the law than earlier versions, but there was also less property tax relief than what was originally proposed.
“Hoosier fiscal leaders are going to need to determine their willingness to continue to shift away from property taxes toward more income taxes,” she said.
Indiana is rated AAA by Fitch Ratings, Moody’s and S&P Global Ratings.
