“Inflation adjusted tax revenues declined in more than half of the states during the first nine months of fiscal year 2026,” according to an August 20 report by the Urban Institute’s Lucy Dadayan.

What’s the problem? As the report states, “slower economic growth, heightened geopolitical uncertainty, renewed inflationary pressures, financial market volatility, and uncertainty surrounding federal fiscal policy and intergovernmental funding,” were all contributors to difficulties in accurately forecasting revenue streams.

And things may get worse. As the report concluded, “Looking ahead, states are likely to face increasingly difficult fiscal tradeoffs. Revenue systems are becoming more volatile as they rely heavily on capital gains, corporate profits, and other economically sensitive tax bases, while demographic changes, evolving consumer behavior, technological change, and federal policy shifts continue to reshape state tax bases. The fiscal challenges of fiscal year 2027 will therefore extend beyond managing slower revenue growth to determining how state tax systems should evolve to remain competitive, fair, efficient, and sustainable in a rapidly changing economy.”

Some of the report highlights:

• “State tax revenues remained weak throughout much of fiscal year 2026. After adjusting for inflation, state tax revenues declined in 26 states during the first nine months of the fiscal year, while most of the remaining states recorded only modest gains”.

• “Although a handful of states with progressive personal income tax structures and high concentrations of high-income taxpayers benefited from strong stock market performance and elevated capital gains realizations, most states experienced sluggish revenue growth or outright declines across one or more major tax sources.”

• “Corporate income tax collections remained particularly weak in many states, reflecting enacted rate reductions, tax planning strategies, and continued volatility in business profits, while sales tax growth moderated as consumer spending softened.”

• “State tax policy responses also became increasingly divergent. Even as revenue growth moderated and federal aid declined, many states continued to implement previously enacted tax cuts, while others raised taxes or broadened tax bases to stabilize revenues.” 

• “At the same time, states continue to reevaluate tax expenditures and explore new or expanded revenue sources to address slowing growth in traditional tax bases. One notable development has been states’ growing interest in taxing emerging industries and economic activities. In addition to reconsidering tax preferences for large electricity-intensive data centers, states are increasingly exploring the taxation and regulation of prediction markets and other rapidly expanding digital activities”.

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