Legislative tax bill needs improvement; is there enough time left to make the grade?

Nan Madden
May 17, 2018

I’ll admit it – I was hoping for a relatively quiet 2018 Legislative Session in terms of tax policy. Then in December 2017, the federal government passed a wide-ranging tax bill that included large, permanent tax reductions for corporations, and a complex set of changes in the individual income tax. Because of the many ways that Minnesota’s tax laws connect with federal law, that put a big job in front of state policymakers.

The federal bill gave the largest benefits to profitable corporations and the highest-income households while adding on to the national debt. We’ve made the case that Minnesota should not mirror those mistakes, and instead Minnesota’s response to it should be grounded in Minnesota values of fairness and sustainability.

Federal conformity done poorly could raise state taxes on families with children in order to pay for tax cuts for others – that’s how it turned out in states such as Idaho and Utah. We’ve called for fiscal responsibility – recognizing that some of the potential additional revenues from conformity are temporary, and that it would be unwise to substantially undermine the state’s ability to raise revenues for education, health care, safe and thriving communities, and other public investments that Minnesotans expect. Minnesota is going to need those revenues if federal policymakers follow through with their proposals to dramatically reduce funding to the states, and whenever the next economic downturn inevitably arrives.

The Legislature’s tax bill (House File 4385) makes some important progress in meeting these goals, but falls seriously short in other respects. In particular, its tax cuts are unsustainable and leave out too many ordinary Minnesotans. These are some of the reasons that Governor Mark Dayton vetoed the bill this morning.

Some of our priorities for conformity are to protect families with children from state income tax increases and prevent cuts in Property Tax Refunds for seniors, people with disabilities, and families – both of which are potential consequences of the federal tax bill’s elimination of personal and dependent exemptions.

Fortunately, both the legislative tax plan and the governor’s proposal would maintain the value of these exemptions and refunds, at least initially. There’s also agreement to maintain the standard deduction, and allow Minnesotans to continue to take most itemized deductions that were available to them before the federal law’s changes.

All this adds up to most Minnesotans having about the same amount of income subject to state income taxes as they had before the federal law passed, instead of a patchwork of some paying more and some paying less.

However, the Legislature’s tax plan only temporarily protects Minnesotans from conformity-related tax increases. The Legislature would adopt a slower-growing measure called “chained CPI” to adjust the tax code for inflation. Deductions and exemptions, as well as the Working Family Credit, the Child and Dependent Care Credit, and other tax benefits, would be worth less compared to current law. The Department of Revenue estimates this change would raise Minnesotans’ taxes by $60 million in the next two-year budget cycle. Modest-income Minnesotans would pay more to help pay for tax cuts that provide little to no benefit to them.

One of the biggest points of contrast between the Legislature’s and the governor’s plans is how and to whom they would provide additional tax cuts.

In terms of individuals and families, the Legislature’s tax bill leaves out many Minnesotans and provides larger tax cuts to those with higher incomes. It would cut income tax rates in a couple of steps, ultimately lowering the tax rate by 0.1 percentage points in the first bracket, and by 0.2 percentage points in the second bracket. But an estimated 1 in 5 Minnesota taxpayers don’t have enough taxable income – after subtracting their deductions and exemptions – to see any benefit from these rate cuts. In contrast, a family of four earning about $180,000 or more would get the maximum tax cut – that’s an income that puts them in the highest-earning 10 percent of Minnesota households.

Dayton’s proposal provides its tax cuts more evenly. It would create a new $60 per person Personal and Dependent Tax Credit for individuals with incomes up to $140,000, and married filers with incomes up to $280,000. Unlike the Legislature, he ensures that Minnesota’s most struggling workers and their families are included in the tax cuts by expanding the Working Family Credit. The governor’s Working Family Credit expansion would benefit 329,000 Minnesota workers and families, who would see an average $160 tax benefit.

The legislative tax plan also cuts Minnesota’s corporate tax rate, on top of the 40 percent rate cut corporations received in the federal tax bill. It would cut the corporate tax rate by 0.7 percentage points by year 2020, and eliminate the corporate AMT, as well as reduce business taxes through other provisions. In the near term, these tax cuts are paid for through conformity provisions that raise business taxes. But these cuts are unsustainable, as they grow larger over time, and rely on temporary revenues to pay for permanent tax cuts.

The Department of Revenue calculates the cost of the income and corporate tax rate reductions to reach $570 million in FY 2022-23.

Other issues that are sure to be part of the negotiations between the Legislature and governor include Dayton’s proposal to reverse three tax cuts in the 2017 tax bill that grow over time (regarding the estate tax, tobacco taxes, and the statewide property tax paid by businesses) and provisions in the Legislature’s tax bill that preempt local governments’ decision-making authority.

There are only five days left in the legislative session. That’s not much time to reach agreement, but it is possible to put together a fair and sustainable tax plan that updates the tax code in ways reflecting Minnesota values, if there is the will to do so.

-Nan Madden