Increased revenue and spending for states in FY 2006.(News & Numbers)

States posted the highest balances seen in years in their primary accounts in FY '06, according to the Fiscal Survey of the States. The annual report, a collaboration of the National Governors Association and the National Association of State Budget Officers, affirmed that state spending from general funds rose to 8.7 percent, a significant increase from the 28-year average of 6.4 percent growth.

Although growth is expected to slow slightly in the current fiscal year, states are nonetheless expected to surpass the average again, increasing state spending by 7 percent in enacted budgets for FY '07.

The strength of state finances results from incoming revenues greater than expected, as well as states' modest budgeting for FY '07. Forty-six states exceeded their expectation for tax collection, while the remaining four were on target for FY '06. In fiscal 2002, 42 states reported lower than budgeted revenue collections.

Another factor indicative of financial health is the number of states that made mid-year budget cuts. At the height of the most recent downturn, 37 states cut spending mid-year, as compared to only two states in FY '06. No states are expected to make cuts in FY '07.

In addition to increased flexibility in spending and saving, lawmakers and governors in 24 states opted to cut taxes and fees, as opposed to 15 who approved net increases. Across the board, a total of $2.1 billion in tax relief has been enacted for FY '07, a strong contrast to the $2.5 billion increase in taxes and fees in FY '06.

Though many states aim to offer tax cuts for their citizens, these decreases have often been met with incremental increases in sales or tobacco taxes. The largest enacted net decrease in tax and fees was in income tax, while the largest enacted net increase was in sales tax.

Despite the positive outlook, states are proceeding with caution. All health care expenditures account for the single largest portion of state spending, totaling 32 percent. Medicaid is a huge portion of this, comprising 22 percent of total state spending. States may find that their newfound financial cushion could be deflated under pressures of rising health care costs: those for the health care plans of their employees, an aging population, and the high number of uninsured citizens, among other factors.

In addition to rising health care costs, states are turning a wary glance toward other issues they must face: deteriorating infrastructure cut out of tight budgets in the recent fiscal crunch, underfunded employee pensions, growing costs for homeland security, and accounting changes related to post-employment benefits. These long-term demands on state budgets tarnish any rosy outlook that strong finances bring in the present day.

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