How Do You Spell "Relief"?

Omnibus tax bills have come together, and a lot of big dogs are chasing what is likely to be a compact car of tax relief

Editors note: In the discussion regarding the Senate omnibus bill, we failed to recognize that in the proposal to lower the first tier income tax rate, income tax brackets are adjusted both for inflation and to limit the relief.  As a result, there is no tax reduction for anyone with taxable income above the current threshold for the 7.85% rate.

“Tax provisions favoring one activity over another or providing targeted tax benefits to a limited number of taxpayers create complexity and instability, imposes large compliance costs and can lead to an inefficient use of resources. A rational system would favor a broad tax base providing special tax treatment only where it can be persuasively demonstrated that the effect of a deduction, exclusion or credit justifies higher taxes paid by all taxpayers.”

                                                                2005 Report of the President’s Advisory Panel on Federal Tax Reform

As the details of this year’s tax proposals emerge, it’s evident that although strong disagreements exist between the parties on appropriate levels of taxation, there is an important shared belief among all the players which may help getting a tax bill signed this year:  guidance like that of the 2005 President’s Advisory Panel may be great theory but it’s political and practical hooey.

With an updated forecasted biennial surplus of over $1.65 billion and nearly $2 billion more in the bank, tax relief of some form was practically guaranteed to be part of everyone’s tax proposals.  The questions are how much and which taxpayers get it.  “Targeted relief” is the dominant theme, and the subspecies of Minnesota taxpayers in play as possible beneficiaries of any new tax relief is impressive including, but not limited to, the following (subject to a wide variety of conditions and eligibility restrictions of course):

Such focused relief efforts may be sand in the gears of simple, efficient tax administration but it’s likely the lubricant for a productive conclusion to the 2017 session.  If policymakers and the governor can agree on a relief number (admittedly a rather big if), this smorgasbord of potential tax relief offers an opportunity for everyone to claim some success when going home to their constituencies.

Here is an overview of the tax bills entering the home stretch (as of this writing).

House:  The first legislative body to release its omnibus tax bill, the House has unsurprisingly placed a strong emphasis on tax relief.  Individual income taxation is the largest area of tax relief with a subtraction for some Social Security benefits ($269 million) and a new refundable credit for student loan payments ($101 million) comprising the largest two items.  Two of the business community’s long sought initiatives – enhancements to the state’s R&D credit and restraint of/relief from the state general tax together comprise about a quarter of the revenue reductions.  Property tax aids and credits spending focuses on the farming community although interestingly there are no increases in County Program Aid or LGA despite the rural Republicans’ role in securing a majority in the House.  The budget for aids and credits does include a one-time $58 million supplement to the homestead refund for FY 2019.  Renters would also receive a one-time refund boost for that year but the budgetary impacts are largely offset by a change in of the level of rent deemed to constitute property taxes.

Table 1

Anatomy of House Tax Relief (HF 4)

Some other policy features worth noting include the establishment of a new federal conformity account ($35 million) to allow the state to conform its individual and corporate income tax laws to federal extenders.  The proposal identifies a list of 14 eligible tax preferences – extender provisions which expire under federal law and to which prior legislatures have conformed in the past.  The $35 million in the account would be automatically replenished annually as money in the account is used to offset revenue losses from this administrative conformity.  Most any kind of revenue directly or indirectly related to the use of an automobile would be dedicated to a new transportation priorities fund including sales taxes from vehicle repair and replacement parts, leases, and rental taxes and fees.  And in the property tax area, citizens could express their frustration with local decision making (and create budget chaos) through a new reverse referendum authority which could reduce the maximum allowed levy in cities and counties to that which existed two years earlier.  A petition signed by only 10% of the voters is necessary to trigger a vote.

In the area of tax administration a number of provisions have been included that address process and procedural problems and annoyances some taxpayers have expressed.  These include:

Senate:  Senate Republicans have countered the House’s plan with a slightly less ambitious tax relief package of $900 million for the coming biennium.  In a departure from micromanaged relief, the Senate’s centerpiece is a permanent cut in the state’s first tier income tax rate, which will be reduced from 5.35% to 5.15% for tax year 2017 and then to 5.0% for tax year 2018 and beyond.  Such a proposal would provide relief to any individual income tax filer with a tax liability; those at lower incomes would see the largest percentage reductions in their income tax burdens but higher earners may still see slightly larger absolute reductions.  For example, in our most recent multi-state individual income tax study, for the 2013 tax year, a two-earner family with $50,000 of income paid $1,257 in state income taxes while the same family at $500,000 of income paid $36,243.  A 5.0% first tier would have reduced the tax burden on the lower income family by 6.5% ($82) and by 0.3% ($124) for the family with the higher income.  Advocates could rightfully argue the proposal offers about 20 times more relative tax relief to lower income households than higher income households while opponents will undoubtedly draw attention to the dollars of tax relief actually provided for different filer types.  Needless to say, it will be very interesting to watch how this idea is marketed to the public and discussed.

Table 2

Anatomy of Senate Tax Relief (SF 2255)

The Senate includes many of the provisions found in the House bill, albeit with some differences.  For example, both bills provide relief from the statewide property tax by eliminating the automatic inflator and exempting a portion of value.  However, the House’s exemption threshold is $200,000 compared to the Senate’s $100,000.  Both bills would also conform Minnesota’s estate tax exclusion to federal levels; but the House would do so immediately while the Senate phases the change in over a 6-year period.

The Senate’s approach does differ from the House’s in a variety of ways.  With regard to property tax aids and credits, the Senate is appropriating $18 million on a one-time basis for LGA and County Program Aid – contrasting with the House’s decision to provide additional tax relief to homeowners and to a lesser extent, renters.  The Senate’s proposal to move toward federal conformity for Section 179 expensing would provide the business community with something it has sought after since Minnesota decoupled from federal rules well over a decade ago.  The Senate bill also lacks a number of the administrative or policy-oriented provisions in the House bill, such as the private letter ruling program, the automatic federal conformity provisions; the reverse referendum on property tax levy increases, the requirement that local government referenda on spending take place only at the November general election, and the payment scheme to local governments for public lands purchased with outdoor heritage fund or environment and natural resources fund money.

Executive Office:  Governor Dayton’s tax plan generally and tax relief ideas specifically are markedly different from the legislative bodies’.  For starters, tax relief is substantially smaller, approximately $265 million for the coming biennium.  It’s much more concentrated with nearly all of it focused on two tax areas, individual income taxes and property tax aids and credits.  It’s targeted differently – nearly all of the $165 million in individual income tax relief results from enhancements and expansion of the state’s child care and working family credits.  And perhaps most importantly, the relief that is provided to some comes at the expense of some higher taxes for others.  About $85 million in new biennial revenue is projected from “closing corporate loopholes” while another $12 million comes from an increase in the state general tax levy accompanying proposed changes to railroad property valuations.  The proposed levy increase ensures business does not receive even an incidental reduction in state property tax bills from having a now broader tax base on which to distribute the levy.

Even though the House tax chair has expressed some sympathy toward the idea of needing to tighten up the corporate income tax structure, these provisions – which are essential to the Governor’s tax relief math – are not included in the House’s omnibus bill.  And while both the House and likely the Senate demonstrate an interest in taking a bite out of the state general levy, the Governor’s proposal heads in the opposite direction.  Thus the fiscal difference between majority legislators and the governor is even larger than the gross numbers suggest.

Combined with Governor Dayton’s commonly expressed reticence to jeopardize future budget stability, all this suggests major tax relief would seem to face a major uphill challenge.  Yet the 2016 session came within a whisker of delivering on many of the tax relief ideas being included in this year’s bills – spoiled by the use of an incorrectly employed two-letter word.  We don’t how this year will turn out, but if a tax bill gets derailed again, interjections rather than conjunctions will take center stage.