Overview

S&P Global Ratings' long-term rating on Colorado is underpinned by the state's strong economy supported by steady population growth, good budget management, strong internal liquidity, and moderately low debt and long-term liabilities. These strengths are offset by constitutional Taxpayers Bill of Rights (TABOR) limits on revenue growth, a somewhat cyclical financial history, and a below-average pension funded ratio despite pension funding progress in recent years.

Based on Colorado's trend of solid financial performance and buildup in reserves in recent years, we believe the state is well positioned to absorb near-term economic headwinds. S&P Global Economics believes that the U.S. economy will fall into a shallow recession in 2023 before growing 0.7% by year-end and 1.2% in 2024. (See "Economic Outlook U.S. Q2 2023: Still Resilient, Downside Risks Rise," published March 27, 2023, on RatingsDirect.) S&P Global Market Intelligence forecasts Colorado's real gross state product (GSP) growth rate could slow to 1.2% in 2023 from 3.2% in 2022, slightly less than the nation's GDP growth rate of 1.4%. It also forecasts Colorado's unemployment rate will climb to 3.7% in 2025 from 3% in 2022.

Colorado's balanced fiscal 2024 budget was enacted on May 1, 2023. The budget assumes $16.7 billion in general fund (GF) revenues, down by 1.6% compared with fiscal 2023 estimates. Nevertheless, the state's March 2023 forecast shows significant revenue growth still outpacing the constitutional TABOR revenue limit, resulting in historic TABOR refunds. The forecast projects that the combined GF and state education fund reserves will decline modestly from an estimated $3.77 billion in fiscal 2023 to $3.45 billion in fiscal 2024, a still very strong 19.2% of expenditures and above the statutory reserve minimum funding target of 15%. Colorado anticipates the possibility of a structural budget deficit beyond 2024, given that service costs will likely outpace revenues, which are expected to remain constrained due to the constitutional revenue growth cap. The state anticipates any shortfalls would need to be resolved by legislative action, which we expect the state will proactively address given its requirement for a balanced budget.

The state's March 2023 quarterly forecast anticipates GF revenues will surpass the TABOR cap by $2.7 billion in fiscal 2023, $720.9 million in fiscal 2024, and $1.2 billion in fiscal 2025. GF revenues exceeding the TABOR cap will be refunded to taxpayers in the following fiscal years, as per state constitutional requirements. Although we believe that TABOR limits the state's tax-raising flexibility, in the short term, it can provide some stability in revenue forecasting, particularly in years where revenues fall below the TABOR limit. TABOR's prohibition on tax increases without a popular vote can limit budget flexibility in periods of rising education, social service, and Medicaid costs.

Fiscal 2022 financial results trended favorably compared with more conservative budgeted figures, with GF revenues reaching a record $17.7 billion. Furthermore, Colorado completed fiscal 2022 with a combined GF and state education fund reserve balance of $4.16 billion, or a very strong 22.2% of expenditures on a budgetary basis. In fiscal 2022, on a budgetary basis, 66% of GF revenues came from individual income taxes, while 23% came from sales taxes.

At fiscal year-end June 30, 2022, tax-supported debt per capita was moderately low, in our opinion, at $746 per capita. Tax-backed debt consists mainly of GF appropriation lease-secured debt. As a percentage of personal income and GSP, tax-supported debt is what we consider low at 1% and 0.9%, respectively. We consider amortization of debt somewhat slow, with 46% of principal amortized over 10 years, based on debt outstanding at fiscal year-end 2022. We expect future debt issuances will be modest given TABOR restrictions.

Colorado's Public Employees' Retirement Association (PERA) is a multiple-employer retirement plan broken down into several divisions. The state government is primarily responsible for funding the state division, which is the largest within PERA, as well as the judicial retirement plan. The three-year average funded ratio for all plans over which Colorado has primary responsibility was 68%, which we view as moderately weak although improving (74.3% in fiscal 2021, up from 56% in fiscal 2019) following three consecutive years of robust investment returns averaging 17.9% from fiscal years 2019-2021 and pension reform legislation changes under SB 18-200. In our view, Colorado's unfunded retiree health care and other postemployment benefit (OPEB) liabilities are low. However, we anticipate the state's liabilities will increase in future years primarily due to the current pay-as-you-go funding approach, absent further meaningful reforms.

Environmental, social, and governance

Environmental factors are a moderately negative consideration in our credit rating analysis for Colorado. The state has elevated risk of wildfires, as well as water scarcity stemming from drought conditions and because limited supplies of Colorado River drinking water compete with a growing population. We expect the state will factor this into its long-term plans. Social and governance factors have an overall neutral influence on our credit rating analysis. We believe the state has strong demographic trends compared with those of the nation, specifically faster population growth and a lower age dependency ratio of 57.5% compared with 63.9% for the nation. However, this is somewhat offset by rising home prices, which could slow future growth, and the need for higher education spending as school enrollment increases. The state conducts quarterly financial projections and has been timely in identifying shortfalls.

Fiscal 2024 Budget Highlights

• The budget for fiscal 2024 recommends $16.7 billion in GF spending, a 1.6% decline compared with fiscal 2023 estimated GF revenues of $16.97 billion;
• Statutory reserve requirement of 15% of appropriations, with an estimated combined GF and state education fund reserve of $3.45 billion in fiscal 2024 (very strong 19.2% of expenditures);
• Expected TABOR refund of $720.9 million in fiscal 2024 based on revenue exceeding the cap;
• The fiscal 2024 budget provides for an increase in total program kindergarten-to-grade-12 funding by $665 million, or $1,018 higher per pupil; and
• New voter-approved funding for universal pre-kindergarten (proposition EE) and free school lunch (proposition FF).

Fiscal 2022 (latest audited fiscal year)

On a generally accepted accounting principles basis, Colorado ended fiscal 2022 with a GF deficit of $343 million and a GF reserve balance of $4.2 billion, or a very strong 17.6% of expenditures. GF revenues totaled $24.56 billion with federal grants accounting for 44%, individual income and corporate taxes at 35%, and sales and use tax at 18.6% of total GF revenues. School assistance made up the largest share of total expenses, at 43%, while school district funding accounted for 25%.

What We're Watching

• Increasing housing costs, which in recent years have led to population growth rates falling to about 0.5% in fiscal years 2021 and 2022, down from an average of 1.4% from fiscal years 2011-2022, and could tighten the labor employment pool;
• Proposition HH, an upcoming November 2023 ballot initiative, would reduce property taxes and backfill this revenue reduction to local governments with revenue above the current-year cap. In future years, the measure would allow the state to retain revenue that would otherwise be refunded to taxpayers by increasing the TABOR revenue limit by a variety of factors, including a new additional 1% growth factor, which could alleviate out-year projected structural budget deficits beyond 2024; and
• Improving pension funding progress following three consecutive years of robust investment returns averaging 17.9% from fiscal years 2019-2021 and pension reform legislation changes under SB 18-200.

Credit Fundamentals

• Broad and diverse economy that continues to exhibit better-than-average income, employment, and population trends;
• Good budget management with strong year-end reserves;
• Low debt, an improving but still-weak pension funded ratio, and moderate OPEB levels; and
• Constitutional provisions such as the TABOR, which we believe limits revenue and spending flexibility, and can contribute to cyclical finances.