House tax proposal to exempt Social Security is expensive and poorly targeted

Nan Madden
May 01, 2015

The House omnibus tax bill (House File 848) would exempt all Social Security income from state income taxes. This poorly-targeted provision leaves out those seniors who struggle most, and its large price tag threatens health care, transit and other community services that improve the quality of life for Minnesota’s seniors.

Minnesota already takes a targeted approach to taxation of Social Security. We follow federal tax laws, which exempt all Social Security benefits for low-income seniors. Seniors with higher incomes include up to 50 percent of their Social Security benefits in their taxable income. And even those with still higher incomes include no more than 85 percent of Social Security benefits in their taxable income. (House Research has a good overview of this issue for those who want to dig in further.)

So the gist of it is: Social Security benefits are already exempt for the lowest-income seniors, and at least 15 percent is exempt for everyone. Since lower-income seniors already have a full or partial exemption, the largest tax cuts from this provision will go to high-income seniors. It’s estimated that when the provision is fully in effect, 41 percent of the tax cuts will go to households with adjusted gross incomes over $100,000. These households will receive tax cuts averaging about $1,500.

I’ve previously written how large tax cuts that phase in over time allow decision-makers to pass tax cuts today but put off the inevitable discussion of how to pay for those tax cuts – whether through cuts to services or raising other taxes. This provision is estimated to cost around $1 billion when all Social Security benefits are exempt in 2019. That puts services for seniors at risk, from community-based services that allow seniors to stay in their homes to high quality nursing home care.

Some proponents of a larger Social Security exemption argue that it is needed so that fewer Minnesota seniors will move out of state. But it is unlikely to make that much of a difference. There are plenty of anecdotes about why Minnesota seniors spend time in warmer climes, but the academic research finds that senior migration is not highly driven by tax benefits for seniors.

Karen Conway of the University of New Hampshire is one researcher who has studied what impact state tax policies have on migration by seniors. As an MPR story on the issue sums up:

“We just can find no evidence that these tax breaks have a meaningful effect on elderly migration,” Conway said. “We don’t see a big uptick in migration. Instead migration has been very steady over time in spite of these changing taxes.”

The research also suggests that tax benefits for seniors – such as exempting Social Security or reducing the estate tax – don’t “pay for themselves,” and instead the additional revenues gained from keeping a small number of households from moving is more than offset by the revenue lost.

Minnesota’s seniors would be better served by tax policy choices that are more targeted, and that don’t cost so much that they threaten the services that seniors – and other Minnesotans – value.

-Nan Madden