Indiana's Local Income Tax:

Distributions and Balances in Recession and Expansion

Dr. Larry DeBoer - Professor Emeritus of Agricultural Economics, Purdue University 

How does Indiana fund local government – police and fire protection, street repairs and stormwater systems, the essential services and routine amenities closest to the daily lives of Hoosiers, delivered by counties, municipalities and other local taxing units like townships and library districts? 

As state policies have gradually limited the property tax base since the mid-1970s, local income taxes (LIT) have been a growing part of the answer, accelerated by efforts to ease the court-ordered shift to market rate property assessments in the early 2000s: In 2000, non-school local units of government raised less than $2 of income tax revenue for every $10 of property taxes. By 2020, that ratio had grown to nearly $8 in LIT per $10 in property tax collections supporting local services (beyond schools).

Today, all 92 counties collect LIT, at an average rate of 1.6%, under the general limit of 2.5%. As LIT revenue grows, so does the importance of refining Indiana's system for distributing it to local governments.

In 2020, nearly a billion dollars in LIT revenue was being held in state-level reserves.

Why do these balances exist, how did they grow to over 30% of annual LIT distributions, and is it time to change the rules?

The Indiana Fiscal Policy Institute (IFPI) presents a new report on Indiana’s LIT structure by Dr. Larry DeBoer of Purdue University. Hoosiers pay state and local income taxes together, but local revenues are distributed back to counties based on past collections. The system creates a nearly two-year delay between incomes being earned, taxed, and finally sent to local governments.

The State of Indiana manages the process through county LIT accounts, akin to 92 checking accounts with tax collections as deposits, certified distributions as withdrawals, and balances kept in each account to avoid "overdrafts" - revenue shortfalls.

Dr. DeBoer finds that state rules managing LIT balances and distributions to avoid deficits during recessions could be eased to release $200+ million to local governments and reduce the gap between future collections and distributions. Learn more below - read the report and download the county-by-county data.