Why is it important to reduce Minnesota’s tax rates this year?
The 2017 federal tax bill provides a once-in-a-generation opportunity to rightsize Minnesota’s tax system. Conforming to the new federal tax definitions will result in additional state tax revenues that should be used to reduce Minnesota’s tax rates. In addition, Minnesota has another budget surplus of $329 million for Fiscal Years 2018/2019, which is the fifth year in a row of state budget surpluses. The state’s two-year budget has already been approved with an 11% increase in state spending over the previous biennium. The state’s rainy day fund is nearly $2 billion. The 2018 session provides a tremendous opportunity to enact pro-growth tax changes by reducing Minnesota tax rates that are in top five highest in the nation both for individuals and corporations.
The federal bill, the Tax Cuts and Jobs Act (TCJA) Public Law 115-97 signed into law in December 2017, does impact our state taxes. Minnesota, along with most other states, uses federal tax laws and definitions as a starting point for determining state income taxes. The TCJA provided federal tax relief for most individual taxpayers and businesses by lowering tax rates and adjusting brackets. The TCJA also eliminated many deductions and subtractions to simplify the tax code so more taxpayers can use the standard deduction versus itemizing. These changes broadened the amount of income subject to income taxes at the state level. If Minnesota just adopts the new federal definitions of federal taxable income, Minnesota taxpayers would pay an additional $411 million in state taxes in FY 2018/2019 and $1.14 billion in FY 2020/21. Following is link to a revenue estimate from the Minnesota Department of Revenue, Federal Update Tax Cuts and Jobs Act 2017_8. For corporate taxpayers this would be an increase of more than 20% in state taxes if Minnesota lawmakers just adopt the new federal taxable definitions without a decrease in rates or other tax changes.
We recommend that any state revenue gains from corporate federal tax conformity should be used to reduce ALL of Minnesota’s tax rates – both for corporations and individuals to more competitive levels. This will better position Minnesota for a strong and growing economy by reducing uncompetitive tax rates that are undermining investment, entrepreneurship, talent recruitment and retention. The very items needed for a strong and growing economy.
How does Minnesota compare on tax rates?
Minnesota’s top individual income tax rate is fourth highest in the nation at 9.8%. The corporate income tax rate of 9.8% is third highest in the nation. High top marginal rates have a negative impact on investment, entrepreneurship, talent recruitment and retention. Individual income tax rates for 2018, Source: Tax Foundation, https://taxfoundation.org/state-individual-income-tax-rates-brackets-2018/
Individual income tax rates and comparisons
Minnesota has four tax rates of 5.35%, 7.05%, 7.85% and 9.85% and the following chart shows the income levels when these different rates apply. The chart shows income for married joint filers and single filers.
|Minnesota||Up to 5.35%||7.05%||7.85%||9.85%|
|Married Joint Filer||$37,850||$37,851 to $150,380||$150,381 to $266,700||>$266,700|
|Single||$25,890||$25,891 to $85,060||$85,061 to $160,020||>$160,020|
For additional brackets see Minnesota income tax brackets & rates for 2018
- 85% is 4th highest in U.S.
- 85% rate is 9th highest in U.S.
- 05% rate is 12th highest in U.S.
- 35% is 23rd highest in U.S.
However, just comparing rates does not tell the whole story as state burdens will vary by taxpayers due to differences in rates, credits and other tax preferences that are provided in the various state tax codes. The Minnesota Center for Fiscal Excellence has a comprehensive study of all 50 states by various taxpayers that provides a more detailed comparison of tax burdens. The most recent study found Minnesota’s ranking varies greatly with some of the lowest tax burdens in the nation for lower-income families and some of highest for higher-income taxpayers. Minnesota has the most progressive income tax system in the nation as the state’s earned income tax credit (also called working family credit) is “one of the nation’s most generous and accessible and propels the state to the top for the first time in this study’s history.” Link to Minnesota Center’s Study, Minnesota Individual Income Tax System Now Most Progressive in the Nation
|(#1 is highest tax burden)|
|Source: Comparison of Individual Income tax burden by States, Minnesota Center for Fiscal Excellence, https://www.fiscalexcellence.org/our-studies/income-tax-burden-study-2017edition-final.pdf|
Corporate income tax rates and comparisons
Minnesota tax rate is 9.8%, the third highest in the nation. Minnesota’s corporate tax rate is higher than even California, New York, New Jersey and Illinois. The corporate tax is the most visible of Minnesota’s business taxes and this high “billboard” rate creates a perception of a bad business climate that negatively impacts investment and growth. Reducing this high visible rate will move Minnesota more in line with other states. Corporate tax rates 2018, Source: Tax Foundation, https://taxfoundation.org/state-corporate-income-tax-rates-brackets-2018/
Similar to individual income taxes, rankings will vary by taxpayers due to other tax preferences in the tax code. A few studies look at more detailed comparisons by taxpayers. The Location Matters: The State Tax Costs of Doing Business, study by KPMG and Tax Foundation, compares all 50 states using seven model corporate tax filers for all business taxes. This study finds that Minnesota’s corporate tax effective rate is in the top 10 for many types of firms and that Minnesota’s overall business tax burden ranks among highest in the nation for the following firm types: 48th for corporate headquarters, 49th for retail facility and 42nd for distribution centers (#1 is lowest). Minnesota ranks much more favorably for manufacturers at second for capital intensive manufacturers and 17th for labor-intensive manufacturers. This is because Minnesota has some beneficial tax provisions such as lack of a personal property tax on inventory, capital equipment sales-tax exemption and single sales apportionment and no throwback rule that provides a more competitive overall tax burden for manufacturers.
Who ultimately pays the corporate tax?
The corporate tax is a regressive tax. Although the initial tax is paid by the corporation, the final tax is paid by consumers in the form of higher prices; employees in form of lower wages and benefits; and lower returns for investors. According to the Minnesota Department of Revenue study, “…economic theory suggests that the long-run incidence impact of a change in Minnesota taxes would tend to fall:
- Less on nonresidents
- Less on Minnesota owners of capital
- More on Minnesota consumers, and
- More on Minnesota labor”
2017 Tax Incidence Study Source: Minnesota Department of Revenue
What is the economic impact of high income-tax rates?
Numerous studies have found a negative impact from high individual and corporate tax rates on investment, entrepreneurship, attractiveness to talent and economic growth. A few of the recent studies found:
- New firm employment is negatively and disproportionately impacted from state corporate tax rates – for every 1% increase in corporate tax rate, employment in start-up firms declined by 3.7%. Source: Federal Reserve Board, Washington D.C., Entrepreneurship and State Taxation January 2, 2018
- Corporate income taxes have the most negative impact on GDP per capita. Source: Jens Arnold, “Do Tax Structures Affect Aggregate Economic Growth? Empirical Evidence from a Panel of OECD Countries,” Organization for Economic Co-operation and Development Economics Department Working Paper No. 643, October 14, 2008 51 ECO/WKP(2008) – OECD.org
- State taxes have a significant effect of the geographical location of star scientists. While there are many other factors that determine where innovative individuals and innovative companies decide to locate, there are enough firms and workers on the margin that relative taxes matter. Source: Federal Reserve Bank of San Francisco, March 2017, The Effect of State Taxes on the Geographical Location of Top Earners
- Review of studies find that high statutory and effective corporate tax rates hinder a country’s investment, productivity and economic growth and, paradoxically, high statutory tax rates do not appear to result in higher corporate tax revenues. Source: PwC, Corporate taxes and economic growth, February 2010, https://www.techceocouncil.org/clientuploads/reports/Corporate_taxes_and_Economic_Growth_FEB.pdf
Businesses received a federal tax break, so isn’t this a good time to increases their taxes in Minnesota?
Minnesota’s business taxes are already among the highest in the nation. Minnesota has an opportunity to reduce high tax rates to a more competitive level, putting Minnesota on a more pro-growth tax system. The state has a $329 million budget surplus and there is no reason to increase taxes on Minnesota’s job-creators that ultimately will negatively impact consumers and workers. Minnesota’s high rate of 9.8%, third highest in nation, will be even more problematic as the state tax will now be a much bigger share of overall tax levels. Under Governor Dayton’s proposal, he would increase business taxes by more than 20% and make Minnesota’s tax code more uncompetitive and out of alignment with other states and nations by increasing taxes and taxing worldwide income. Other states are moving to be more competitive by enacting rate reductions due to the federal tax bill changes (i.e. Georgia and Idaho just passed tax cuts; Iowa has proposed rate reductions).
Yes, the federal tax bill enacted tax relief but those reforms were long overdue to bring the United States more in alignment with the rest of the industrialized nations (both on rates and moving to territorial system) in order to encourage greater economic growth and investment back in the United States. Before the federal bill passed, the United States had the highest combined statutory corporate income tax rate among the OECD nations at 38.9% (35% plus the average of state corporate income tax rates) – approximately 15 percentage points higher than the OECD average. After the passage of federal tax bill, the U.S. combined rate is now 25.7% which puts the United States slightly above the current OECD average of 24%.
The result of the federal tax bill has been an increase in economic growth that has added to Minnesota’s state surplus. Many companies have announced increases in wages, bonuses, charitable giving and increased investments as result of the lower federal tax bill. Reducing state corporate tax burdens would encourage similar growth in economic activity in Minnesota and reduce a regressive tax.