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The new year brings profound budget challenges for the state of Illinois, which has the worst credit rating of any state in the U.S. and is dealing with the expiration of temporary tax increases.

Illlinois also has a divided government: a newly-elected Republican governor Bruce Rauner who campaigned against making the state's temporary income tax increase permanent, an unfunded pension liabilities of about $100 billion (or possibly more), and a solidly Democratic state legislature.

The state has a flat income tax. Everyone pays the same rate regardless of income. Lawmakers had hiked that rate in 2011 from 3.75 percent to 5 percent to deal with the effects of the recession, promising that the hike would be temporary and would expire in 2015. But they spent the money on the state's pension obligations instead of helping local municipalities deal with the recession, says Laurence Msall of the Chicago Civic Federation, a non-partisan budget watchdog group.

"There has been a willingness to ignore longterm financial repurcussions of short-term politically-attractive answers," says Msall, whose group earlier in 2014 had proposed fixing the state's budget woes by gradually reducing the income tax rate down to 4 percent while also consolidating various branches of state government to cut spending.

Msall's organization also proposed taxing retiree income, at least to some extent. Illinois is one of only three states  out of 41 that impose income taxes  that doesn't tax pension income, the Chicago Civic Federation said in a report.

Instead, before Rauner's election, Illinois' Democratic Governor Pat Quinn proposed making the temporary tax hike permanent  a plan Msall says would not have solved all of the state's fiscal woes anyway.

Rauner ran a successful campaign that criticized Quinn's proposal. And now, the Democratic-controlled legislature is waiting on the new governor to propose how to close the budget gap while accounting for about $2 billion in tax revenues that will disappear in the current fiscal year, and another $4 billion revenue reduction in the fiscal year starting in June 2015.

"There is no plan right now," says Msall. "The budget that they've passed is going to run up the unpaid bills ... The state is borrowing from its own resources and it's relying on accounting gimmicks"

Richard Kaplan, an expert in tax law at the University of Illinois, says there are other revenue sources the state could draw upon outside of the state income tax.

"There are a variety of these excise taxes on gasoline, telephone service, alcohol and tobacco products," says Kaplan, who adds that the state could also expand its sales tax to apply not only to goods purchased but also services such as hair cuts, medical care and others.

If such taxes are enacted, it could mean Illinois tax payers who see additional money in their paychecks now, may soon end up paying higher prices for daily expenses in the near future.

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