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B-to-B Sales Tax Gone; What’s the Replacement?

March 11, 2013 By Jeff Van Wychen, Fellow and Director of Tax Policy & Analysis

Governor Dayton’s decision to cut business-to-business sales taxes out of his revised budget plan removes approximately $2.2 billion in revenue from his budget. After a decade of declining funding for education, infrastructure, and human services, we must find other progressive revenue generators to prevent deeper cuts in existing programs and make the investments Dayton originally proposed in January. 

We’ll know more about what the Governor ultimately decides when he officially releases his revised budget tomorrow. In the meantime, here are some options he might be considering.

Reducing the $500 homeowners’ property tax rebate could be on the table. Homeowner property taxes have increased by 89% since 2002—dramatically above the rate of inflation and much more rapidly than that of combined non-homestead property taxes. A contributor to homeowner property tax increases was the elimination of the homestead credit during the 2011 special legislative session. However, the Governor’s proposed homeowner rebate is at least twice as generous as the previous homestead credit. The maximum rebate could be reduced to $300, resulting in a saving of nearly $600 million in the FY 2014-15 biennium; this reduced rebate would still be more generous than the old homestead credit for the vast majority homeowners.

On the revenue side, there are several options. The Governor has proposed reducing the corporate income tax rate from 9.8 percent to 8.4 percent. Canceling this rate reduction would increase state revenue by about $300 million in FY 2014-15. With Dayton’s proposed 9.85% fourth tier individual income tax rate, the new top marginal income tax rate would be nearly identical to the current corporate income tax rate. This provides a rationale for not reducing the corporate rate, since the top corporate rate should be approximately equal to the top individual income tax rate so as to not place businesses with pass-through income at a competitive disadvantage relative to corporations.

Implementation of a corporate throwback rule—a policy recently advocated on this site—would generate approximately $87 million in FY 2014-15. Closing this loophole would make Minnesota’s tax system simpler while leveling the playing field between larger multi-state corporations and smaller businesses with exclusively in-state sales.

The Governor could also reverse his plan to limit growth in the statewide business property tax. While taking away property tax relief seems counterintuitive coming from Minnesota 2020, further examination reveals this particular property tax break is questionable policy at best. The state business property tax is already capped at the rate of inflation, with no adjustment for statewide population growth; as a result, this tax declines in real per capita dollars from year to year even with no new restrictions on its growth. Largely as a result of the state business property tax, Minnesota business property taxes have grown much less rapidly than homestead taxes over the last decade. The state business property tax is already stable, predictable, and slow growing; thus future growth in this tax does not need to be further restricted. Canceling this provision of the Governor’s budget would save only $25 million in FY 2014-15, but an increasing amount in subsequent biennia.

The revenue raisers mentioned above affect businesses. However, with the cancellation of the tax on B-to-B sales, the resulting tax on businesses if all of the suggestions above were adopted would still be far less than under the Governor’s original budget released in January.

Other options are also possible: a less dramatic reduction in the sales tax rate, an increase in alcohol taxes, reduction or elimination of various tax expenditures, and so forth. In addition, the recent uptick in revenue indicated in the February 2013 forecast means that the Governor’s budget does not need to generate as much revenue in the next biennium as planned for in the original January budget plan.  On the other hand, the Governor and legislature should begin incorporating realistic projections of the impact of inflation on state spending--something that will require additional revenue or additional spending reductions in order to achieve a structurally balanced budget.

The level of investment in the Governor’s budget is warranted given the sharp decline in state expenditures over the last decade. Even without B-to-B sales, these investments can be achieved without increasing Minnesota’s “price of government.” The trick will be in finding a way to replace the B-to-B revenue in the Governor’s budget in a way that makes policy sense and that is also politically saleable.

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