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Governor Gets it Wrong on Business Taxes

January 27, 2009 By Jeff Van Wychen, Fellow and Director of Tax Policy & Analysis

Governor Pawlenty claimed that "if Minnesota were a country, we'd have the third highest business tax rates in the world," in his State of the State Address. Given the Governor's penchant for selective presentation, we decided that the claim should be scrutinized, as should his call for cutting corporate income tax rates in half.

It is clear from the context of the Governor's claim that when he uses the term "business tax rates" he is referring to corporate income tax rates.  Any ranking of tax rates, corporate or otherwise, is meaningless outside of the context of tax base.  What matters ultimately is not the tax rate, but the final tax bill.  A high tax rate does not necessarily translate into a high tax amount if the rate is applied to a very narrow tax base.  As the Center for Budget and Policy Priorities puts it:

Government and independent researchers have long pointed out that the top statutory corporate tax rate is an incomplete measure at best of the burden of corporate taxes.  It does not take into account the generous depreciation rules, exemptions, deductions, and credits (some of which are sometimes termed "loopholes") that corporations may be eligible for.

In short, knowing what the tax rate is tells us very little in the absence of information on what the rate is applied to.  Thus, the Governor's claim that Minnesota has "the third highest business tax rates in the world" is meaningless.

Minnesota's corporate income taxes are relatively high by the reckoning of most experts.  However, even according to the conservative Tax Foundation (the Governor's source), corporate income taxes in Minnesota are not among the three highest in the nation, much less the world.*

The bottom line is that the Governor sacrificed relevance to push failed conservative tax policy.

A more important question is whether a fixation on tax rates should even drive state fiscal policy.  In research from the Economic Policy Institute, economist Peter Fisher notes that taxes are "only a small part" of the equation affecting business location decisions; other factors in this equation include:

  • educational attainment
  • school quality
  • health care
  • labor costs
  • cultural and recreational amenities
  • climate
  • energy costs
  • transportation

Policymakers certainly should be cognizant of how taxes impact business location decisions and economic development.  However, policymakers should be equally, if not more concerned about the impact disinvestment has on Minnesota's business climate and overall quality of life.  At least half of the business location factors on Fisher's list are tied to public investment.

Analysis from the Department of Revenue reveals that Minnesota is no longer a high tax state.  In fact, 2006 total state and local government revenue and spending was not significantly different than the national average. Furthermore, total per capita public employment in Minnesota has fallen below the national average.

Six years of the "no new tax" agenda has coincided with a drop in Minnesota's economic performance relative to other states.  In light of collapsing tax revenue and a massive structural budget deficit that extends into the foreseeable future, proposals to further cut state taxes by hundreds of millions of dollars truly represent the triumph of political dogma over common sense.

This is not to say that tax reform must be off the table.  However, any changes must be part of a broad reform that will make the state's tax system fairer.  Above all, tax reform must not further cut total public resources at a time when tax revenues are already plummeting.  In the absence of these reforms, the Governor's call for large business tax cuts doesn't make sense.

*The Center for Budget and Policy Priorities concludes that U.S. corporate taxes are not high compared to other developed countries.  Furthermore, based on information for 2006 compiled by the World Bank, 31 nations have higher corporate income taxes than the U.S. based on corporate income tax liability as a percentage of commercial profits.

+In 2006 total state and local government revenues in Minnesota per $1,000 of personal income are 3.1 percent below the national average, while total expenditures per $1,000 of personal income are 2.9 percent below the national average.  In the same year, total state and local government revenues per capita were 3.3 percent above the national average, while total expenditures per capita were 3.6 percent above the national average.

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