Budget Nightmare: 10 Most Broke States

July 7, 2009— -- The economic problems of American families are now pounding many state governments which are in turn slashing services to balance their budgets in one of the most difficult years in decades.

High on the chopping block are benefits to the poor, money for education, highway repairs, hours that state offices are open and even closures of state parks and recreation areas.

Things are so bad that 48 states addressed or are facing shortfalls in the fiscal year that just started. The total deficit: $166 billion, according to the Center on Budget and Policy Priorities. Many states are also already predicting shortfalls next year.

Only Montana and North Dakota have so far been unscathed in their state budgets.

The problem: as workers get laid off or see their pay cut, they end up owing the state less in income tax. Further compounding the issue is a shortfall in sales tax caused by consumers cutting back in the recession. Finally, companies are making less money and also paying less in taxes.

"It's a revenue problem, not a spending problem," said Elizabeth McNichol, a senior fellow at the center.

Unlike the federal government, nearly every state is legally required to balance its budget. For many, the spending cuts would have been worse without the $787 billion federal economic stimulus package.

No one is immune from the wide-ranging cuts.

"States are really looking at everything," said Todd Haggerty, a research analyst with the National Conference of State Legislatures. "Anything and everything is on the table."

To come up with a list of the worst state budget situations, ABC News asked the Center on Budget and Policy Priorities to look at the budget gaps that states closed -- or still need to close -- as a percentage of their overall budgets.

Coming in at the top of the busted list is California, which is going through a miserable budget crisis. But there are also some surprises on the list, including Alaska and Vermont.

California: $53.7 billion shortfall or 58 percent of its budget

Perhaps no state has a more daunting problem to overcome than California. Its massive deficit is larger than the entire budgets of several states. The state has almost a $27 billion gap to close before balancing its budget. The $53.7 billion figure adds in the massive gap that the state has already closed. There's very little fat to trim without residents feeling even more pain.

Adding to the attention today will be Michael Jackson's memorial service, reportedly estimated to cost up to $4 million for police overtime. While the city of Los Angeles will be footing that bill -- for now -- the cost draws even more attention to the state's troubles.

The Golden State's problems are emblematic of the nation's. But whatever happens in California could actually have implications for all of us: the state accounts for 12 percent of the nation's gross domestic product and the largest share of retail sales of any state.

The cash flow shortage is so bad that last week the state, which if counted as a country would have the eighth largest economy in the world, had to start issuing IOUs to make its bills. The IOUs, issued for the first time since 1992, are being given to vendors and residents who were owned tax refunds. (The IOUs pay an interest rate of 3.75 percent, better than most people are seeing in their savings accounts these days.) The state hopes to redeem the script in October.

Residents seeking to get a new driver's license or even call with questions about their IOUs might find their pleas falling on deaf ears. Governor Arnold Schwarzenegger is shutting down most of state government for three "Furlough Fridays."

Voters in May rejected five ballot measures that would have helped stop the budget crisis. Now, to raise cash, Schwarzenegger has called for selling off certain state properties.

He also proposed eliminating $70 million of funding for state parks, which would likely result in the closure of 220 parks. The legislature is trying to avoid those closures through a $15 increase in annual motor vehicle registration fees. California drivers would then get free admission to the parks.

To help close the gap, the state has also increased co-payments and reduced dental benefits in its children's health program. Other big cuts include state aid to local school districts, a 10,000-student enrollment cut at the California State University system and the elimination of dental and vision services for many Medicaid recipients.

Other Troubled States

Arizona: $4 billion shortfall or 41 percent of its budget

Arizona was ground zero for the collapse of the housing market. Cities like Phoenix have seen home prices plunge while jobs have dried up. Income tax collections are down 34.4 percent and the sales tax is down as sakes of building supplies and other consumer goods plunge.

The governor and legislature have been battling over way to close the budget gap. At issue: more than $630 million in spending cuts, including the elimination of a welfare program for disabled people waiting for Social Security benefits.

Gov. Jan Brewer wants to temporary hike the state's sales tax from 5.6 percent to 6.6 percent. For each of the three years she expects it will take to turn around the state's economy, the hike would bring in an extra $1 billion. But lawmakers have balked.

Instead they have reduced school spending, cut $40 million from the state universities, $49 million from the Health Services Department and taken $43 million in slot-machine revenues that were supposed to go to highways and used it for other spending.

The governor vetoed most of the $8.4 billion budget Wednesday, saying it "incorporates devastating cuts to education, public safety and our state's most vital services for the frail."

She called lawmakers into a special session Monday to pass a budget that avoids deep cuts in part by increasing the sales tax.

The government is unable to make cuts to roughly one third of the budget because voter mandates stipulate exactly how that money should be spent.

Nevada: $1.2 billion or 38 percent of its budget

Like Arizona, Nevada was hit hard by the housing market. But the state also got whacked by a drop off in tourism and gambling revenue. First, high gas prices kept tourists away. The only way to get to Las Vegas is to drive a far distance or fly. Then the recession made people less willing to gamble with their paychecks. That has put a massive strain on the state's budget.

To help close the budget gap, the state is looking at decreasing teacher pay by 4 percent and giving state employees 12 unpaid furlough days, the equivalent of a 4.6 percent pay cut. Lawmakers are considering raising some taxes -- for instance the tax on cigarettes could go from 80 cents a pack to $1.80 -- but Gov. Jim Gibbons has threatened to veto any new taxes proposed by the legislature. That includes cigarette, liquor and mining taxes.

To help close the gap, the governor has ordered cuts to education, including delaying an all-day kindergarten expansion and eliminating funds for gifted and talented programs and a magnet program for students who are deaf or hard of hearing.

Illinois: $9.2 billion or 33 percent of its budget

Last week, Gov. Pat Quinn vetoed a budget proposal that would taken away $5 billion in federal funds from social services for the poor and homeless. However, the state still does not have a budget in place even though the new fiscal year began on July 1.

Quinn, who replaced ousted governor Rod Blagojevich only six months ago, has stated he will veto any other budget proposal that does not call for a tax increase. Even with the 50 percent income tax hike that Quinn has proposed, the governor's administration will carry out $1 billion worth of budget cuts that amount.

These include a $185 million cut in state operations, a $140 million cut in health insurance, $175 million cut in education and $283 million cut in the Department of Human Services. More than 2,500 state workers may lose their jobs and those who stay may be required to work 12 unpaid furlough days.

Wall Street's Woes

Home to Wall Street, New York state has seen its personal income tax collections fall a whopping 48.9 percent in the last year, according to the National Conference of State Legislatures. When Wall Street started laying off workers and slashing multi-million dollar bonuses, the state's coffers felt the impact.

Although a divided state Senate in Albany enters its fifth week of a budget stalemate, New York's struggle to close the budget gap has dragged on for several months.

The state legislature passed a $131 billion spending plan at the start of its fiscal year, which began on April 1.

The gap there was cut, in large part, due to income tax hikes on the state's richest citizens.

For households with taxable income above $500,000, the tax rate went from 6.85 percent to 8.97 percent. For those earning above $200,000 to $300,000 – depending on filing status – but less than $500,000, the rate jumped from 6.85 percent to 7.85 percent.

In addition, New York placed limits on itemized state income tax deductions for taxpayers making over $1 million and reduced a state-funded credit on New York City's personal income tax. The changes are projected to raise more than $5 billion a year.

But that won't be enough. Gov. David Paterson has proposed a $698 million reduction in school funding, $3.5 billion cuts in healthcare services and layoffs for more than 500 state government workers. To further help balance budgets, tuition at public universities also increased.

Alaska: $1.35 billion shortfall or 30 percent of its budget

The county's most-remote state had a shockingly large shortfall this year for one simple reason: oil prices plunged. Alaskans pay no state sales tax or state income tax. In fact, the state pays every man, woman and child who has lived there at least a year money to, well, live there. The so-called Permanent Fund paid $3,269 from oil taxes and royalties to the 610,768 residents who qualified last year.

But signs are showing that the fund isn't so permanent. Oil production in Alaska has declined by 64 percent since 1988 but had very little impact on the state's budget because at the same time the price of each barrel of oil has shot up significantly. Then came the global recession. Oil prices fell from more than $140 a barrel last summer to about $30 this winter before climbing back up to $64 a barrel today.

That drop caused the state's corporate taxes -- essentially all oil money -- to fall 32 percent compared to last year, creating a rare budget problem for Alaska. The state easily solved it this year by taking money out of flush reserve funds, built up during oil boom years. But many state watchers questioned the future of Alaska's ability to fund its services and continue its annual Permanent Fund payments to residents.

That's one problem Gov. Sarah Palin won't have to deal with. She's announced her resignation from the job.

New Jersey: $8.8 billion or 30 percent of its budget

The Garden State has seen a double-whammy of problems from a drop in Wall Street salaries and also a fall in gambling revenues in Atlantic City. To close the gap, the state eliminated 2,000 jobs by encouraging early retirement, leaving vacancies unfilled and laying off staff. About $325 million will be saved through wage freezes and furloughs, although unions have yet to formally sign on to the plan.

The state is also skipping making a $940 million payment to its pension fund. The money will have to be made up at some point and the longer the state waits, the larger the repayment will have to be.

New Jersey also raised about $1.2 billion in new taxes, mostly from tax filers earning $400,000 or more. It also scaled back and eliminated property tax rebates for people earning $150,000 or more.

The state also increased so-called sin taxes on cigarettes, lottery winnings larger than $10,000 and alcohol, except beer.

Big Layoffs

With nearly $800 million in tax increases, Oregon is among a handful of states to recently approve big tax hikes. Budget cuts announced in May anticipated the layoffs of 1,700 state employees and a 14 percent budget cut in higher education, for $2 billion in cuts.

Oregon's lawmakers traditionally meet just every other year, but state legislators met last month to pass a $6 billion budget for the state's K-12 schools, despite concerns from Gov. Ted Kulongski. However, schools still have to cut back, as evidenced by bigger classes, fewer music and athletic programs and a freeze in employee pay at many districts.

While public school students were spared from deep cuts, the same cannot be said for the state's working poor, seniors and disabled. The Department of Human Services will receive $387 million less than what officials say is needed to sustain their programs. Among the largest cuts is a $41 million reduction in a daycare program for low-income families.

The state legislature will reconvene in February.

Vermont: $278 million or 25 percent of its budget

Compared to the other states, Vermont's $278 million shortfall might not seem like much. But then again, this tiny New England state doesn't really spend much, so the shortfall actually takes up a large portion of the budget.

After a special legislative session last month, Vermont lawmakers approved a state budget. But the state's financial woes have translated into cuts across many sectors.

Lawmakers tapped money from the state's education fund to pay overall expenses, resulting in a loss in state aid of about $18.4 million to the Education Fund for fiscal year 2010. Lawmakers also enacted a provider rate cut from 4 percent to 2 percent for contracted healthcare services, impacting mental health providers, sign language interpreters and rehabilitation programs for children.

The state is also taking cuts that could impact its environment, a major selling point in its important tourism industry.

Vermont eliminated approximately 10 percent of the jobs in its Agency of Natural Resources, a state department dedicated to protecting the environment. Most of the job cuts were made among the agency's solid waste management staff.

Vermont now charges a sales tax for digital music downloads and liquor, has raised tobacco taxes and will shut down several highway rest areas.

Washington: $3.6 billion or 23 percent of its budget

Washington state's deficit has taken its toll on social services for residents. Lawmakers predicted budget cuts would result in the loss of 8,000 state jobs and 40,000 fewer people receiving state-subsidized health insurance. There are already 14,000 people on the waiting list for that program.

In April, state legislators approved plans to cut the state's public education system by nearly $800 million, though some school districts will receive money from the federal stimulus package. Measures passed this year will also allow the state to raise the current 7 percent cap on undergraduate tuition increases to up to 14 percent at public universities. Approximately 9,000 fewer students are estimated to be able to enroll in a state university as a result.

A 70 percent cut in Medicaid for low-income seniors took effect on July 1, forcing elderly care providers to lay off staff.

Connecticut: $4.1 billion or 23 percent of its budget

Rounding out the worst 10 is Connecticut, where there is currently no budget in place after Governor M. Jodi Rell vetoed Democratic legislators' budget proposal earlier this month. Rell issued a 34-page executive order to provide $1.4 billion for state operations for the month of July.

Last September, the state's Department of Children and Families budget took a heavy hit, including a more than $9.8 million cut in residential services and shelters for children in state custody. The Department of Developmental Services and the Department of Social Services lost more than $8 million and $5 million respectively. Rell's latest proposal calls for $5.4 million cuts in the state's library services.