Minnesota House Passes $2 Billion Tax Cut, But Offers Little Structural Reform

April 30, 2015

Two years after Minnesota Governor Mark Dayton (DFL) shepherded a $2.1 billion tax increase through the legislature, the Republican-controlled House of Representatives has passed a $2 billion tax cut plan which, notably, does not attempt to roll back Dayton’s tax increases for top income earners. While the Democratic-controlled Senate and Governor Dayton are unlikely to embrace the House legislation in its current form, should a tax reform package pass this year—which is increasingly plausible, given the state’s projected $1.87 billion surplus—it will mark the third time in as many years that Minnesota has enacted significant tax legislation.

House File 848, which passed the House yesterday, would (1) reduce income tax burdens by increasing personal exemptions, allowing the subtraction of Social Security income, and expanding educational credits; (2) reduce corporate property tax burdens by exempting (once fully phased in) the first $500,000 in assessed value; (3) use tax credits to reduce the agricultural share of school debt taxes; and (4) extend and expand existing job credits.

These proposals do not exist in a vacuum; they were designed to offset the new burdens of 2013, although the reductions would have a dramatically different incidence than the taxes hiked two years ago.

In 2013, Governor Dayton secured passage of a tax package that, among other things, accomplished the following:

  • Creating a new top income tax bracket for single filers making over $150,000 and joint filers making over $250,000, with a rate of 9.85 percent. The prior top income tax bracket was 7.85 percent. Minnesota’s top marginal individual income tax rate is now the fourth-highest in the country.
  • Hiking cigarette taxes from $1.23 to $2.83 a pack, an increase of $1.60 a pack. The tax now stands at $2.90, ranking seventh-highest nationwide and highest in the region. Taxes in neighboring states range from 44 cents a pack in North Dakota to $2.52 a pack in Wisconsin. You can read about the link between high cigarette taxes and cigarette smuggling here.
  • Instituting a new gift tax on all gifts valued at more than $14,000 a year, including those to immediate family members.
  • Expanding the “wheelage tax”—imposed on vehicle ownership—allowing counties to levy it across the state instead of just in the Twin Cities.
  • Imposing taxes on digital audio and video downloads.
  • Reformulating and expanding the homeowner refund to provide homestead credits to homeowners in households earning between $19,500 and $105,000 in annual income.
  • Including business inputs in the sales tax. Although the Governor’s original base-broadening plan was scaled back, some expansion to select business-to-business transactions was retained. This necessarily leads to tax pyramiding.

A few more promising elements of the plan, including a corporate income tax rate reduction, were dropped by the Governor partway through the 2013 legislative session.

Last year, Minnesota enacted a tax reduction package that included the following:

  • Rolling back the imposition of the sales tax on business inputs like warehousing, telecommunications equipment, and equipment repair and maintenance;
  • Expanding the sales tax exemption for capital equipment, albeit with a delay to the up-front exemption from September 1, 2014 to July 1, 2015;
  • Raising the estate tax exemption from $1 million to $2 million over five years;
  • Mirroring some of the changes to federal taxable income embodied in the American Taxpayer Relief Act;
  • Eliminating the marriage penalty; and
  • Expanding the refundable Working Family Credit, extending eligibility to taxpayers earning up to $47,000.

Some of these income tax changes may be good policy, and pairing the state’s income tax calculation with the federal calculation can help simplify tax compliance, but the legislature failed to repeal the prior year’s rate hikes and instead chose to carve away at the base.

That brings us to 2015, where the lower chamber passed House File 848 on a 74-58 vote yesterday. Among the bill’s features:

  • A new $1,000 personal or dependent tax exemption, though only for the next two years;
  • A subtraction for Social Security income, phased in until fully exempt as of 2019;
  • A property tax exemption for the first $500,000 in assessed value of commercial and industrial property, to be phased in over six years;
  • The further phase-up of the estate tax exclusion, to reach the federal amount of $5 million by 2018;
  • Expansion of existing educational credits and income subtractions to cover prekindergarten;
  • A property tax credit equal to 50 percent of the tax on agricultural property attributable to school district bonded debt levies; and
  • Extension of the angel investment credit through tax year 2018, with an increase in the biennial allocation from $15 million to $18 million.

Notably, the legislation does not roll back the state’s high income tax rates, which was very intentional:

House Republicans are trying to provide relief after the tax increases Democrats enacted two years ago.

But House Taxes Committee Chairman Greg Davids said it would have been pointless to propose rolling back the income tax increase on top earners that was DFL Gov. Mark Dayton’s priority issue in 2013.

“I want to get a bill signed, and I don’t think you start off by going after one of the governor’s prime positions,” said Davids, R-Preston.

Henry Clay coined the term omnibus, referring to a bill containing “all sorts of things and every kind of passenger.” Unfortunately, this omnibus is notable for what’s missing: a reduction in Minnesota’s high statutory tax rates. Although the package would succeed in reducing overall tax burdens, which can be quite important in and of itself—especially in a high tax state like Minnesota—it does so by carving out exemptions rather than tackling bigger structural concerns. Whatever becomes of this bill, structural reform looks like it will have to wait.

You can read our initial analysis of Dayton’s 2013 tax proposal here, and an overview of the 2014 tax package here. More on Minnesota here.

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A tax is a mandatory payment or charge collected by local, state, and national governments from individuals or businesses to cover the costs of general government services, goods, and activities.

A property tax is primarily levied on immovable property like land and buildings, as well as on tangible personal property that is movable, like vehicles and equipment. Property taxes are the single largest source of state and local revenue in the U.S. and help fund schools, roads, police, and other services.

A corporate income tax (CIT) is levied by federal and state governments on business profits. Many companies are not subject to the CIT because they are taxed as pass-through businesses, with income reportable under the individual income tax.

A tax credit is a provision that reduces a taxpayer’s final tax bill, dollar-for-dollar. A tax credit differs from deductions and exemptions, which reduce taxable income, rather than the taxpayer’s tax bill directly.