Budget Brinksmanship in Minnesota Could Lead to a State Government Shutdown

June 29, 2011

As the clock ticks down to tomorrow night’s midnight deadline, a state government shutdown in Minnesota looms nearer and nearer. Judge Kathleen Gearin has already issued a ruling on what services the state will be required to continue operating (prisons, drug treatment centers and nursing homes) and which ones will be shutting down (rest stops, zoos, the state lottery) if no agreement is reached. State workers whose agencies and functions are not on Judge Gearin’s list, approximately 23,000 of them, will be laid off until a budget can be approved.

One of the things being fought over is Gov. Mark Dayton’s tax plan, which would create a new top income bracket for individuals and place a temporary three-year additional surcharge of 3% on incomes over $500,000. Tax increases, of course, are never popular, so Gov. Dayton has attempted to ease the burden on small business with two different possible exemptions. As Joseph Henchman, Will McBride and David Logan point out in today’s Fiscal Fact, though, both alternatives have problems:

At a press conference in late May, Dayton stated that he would consider exempting small businesses from the income tax increase. This could be understood one of two ways:

  • Exempting small business income from “pass-through entities” (LLC, LLP, or S-corporation income) from the proposed 10.95% and 13.95% income tax rates, resulting in small business income being taxed at the 7.85% rate
  • Exempting a taxpayer from the 10.95% and 13.95% income tax rates if that taxpayer has any small business income from pass-through entities (LLC, LLP, or S-corporation income) at all.

Under the first proposal, any income derived from pass-through entities would be excluded. In the second proposal, all income, from any source, would be excluded if any is derived from pass-through income. Both would introduce additional compliance costs and create large incentives for tax avoidance, and as such they represent bad tax policy.

As we wait to see whether legislators in St. Paul will accept one of these options or reject them both, experts are already lining up to predict the impact of a shutdown. According to political analyst David Schultz, quoted by NBC affiliate KARE 11, “Minnesotans are going to see a very big difference this time compared to six years ago,” the last time there was a government shutdown in the state. Schultz points out that in 2005, the legislature had already passed 7 of the usual 10 budget bills. This year, only the agriculture bill has been passed. Brian Lambert of MinnPost.com also has a roundup of stories reviewing the disruptions and costs associated with stopping and re-starting funding for so many programs.

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