Growth & Justice Blog

Business tax reform commission needs a balanced perspective

Last week, Growth & Justice sent a brief letter to the members of Gov. Pawlenty's new 21st Century Tax Reform Commission offering support and suggesting questions we hoped the business leaders on commission would consider:

• How will changes affect your current and future employees, customers and communities where you do business?
• How might reforms impact the adequacy and stability of state and local revenue? 
• Can changes that help business also make the system fairer and less regressive?
• What is the value to business of public investment in education, transportation and health care, and what should be its ongoing contribution to this investment?
• How should government and taxpayers measure the effectiveness of tax cuts, business incentives or other reforms? 

We also weighed in with a post about the relationship between business taxes and business loophole seeking.

This week, Katherine Blauvelt at Minnesota Budget Bites surfaced a 2006 Star Tribune Business Forum commentary in which Michael Vekich, the newly appointed chair of the commission, set forth five tax policy principles that track pretty well with our questions. That's encouraging.

But we still have concerns about what outcomes we can expect from a business-centric commission with a charter that starts from the assumption that tax reform is the key to increasing Minnesota's economic competitiveness.

While the individual appointees are all worthy, as a well-rounded team, the commission has some holes. For example, there's no representation from green industries or agriculture (unless you somehow count General Mills). Both are important to Minnesota's future and are subject to a variety of specific tax policies and investment considerations. Also missing are any advocates for consumers, education and labor. Employers aren't the only ones concerned about the economy, job climate and impact of business taxes on costs.

We hope the commission will find ways to fill in these missing perspectives.

— Charlie Quimby

It takes two to tangle a tax system

Last week, when Gov. Pawlenty announced his 21st Century Tax Reform Commission to reform business taxes, in Massachusetts

Governor Deval Patrick's quest to tighten corporate tax laws and reap hundreds of millions of dollars in new revenue might be undermined by a last-minute amendment providing new offshore tax breaks that was tacked onto the legislation by the House, according to state officials.

I'm not going to prejudge the outcome of the Minnesota Commission's work, but it will be interesting to see if this panel of business people will operate under any different mindset than their business lobbyists do, slipping in amendments that take money out the back door while reformers like Patrick are walking around closing the windows.

The issue hinges on a complex tax regulation called combined reporting, which is designed to prevent large, multistate corporations from shifting certain profits to other states that have lower tax rates. The House-approved corporate tax legislation would require companies in Massachusetts to combine all income and apportion the Massachusetts share.

Minnesota is gradually shifting its apportionment of corporate taxes toward a heavier weighting on sales versus property and payroll. This will benefit companies with headquarters or a major facility in Minnesota that sell products nationally or worldwide. Companies that sell in Minnesota but have relatively modest in-state operations may pay more with a sales-only formula.

Whenever there are differentials in tax rates, businesses will try to exploit them. While those favoring reduced state taxes focus on the threat of businesses leaving the state, uprooting operations carries its own costs and risks. It's usually more practical for a company to do the same thing any governor does — shift the money.

Instead of moving revenue between departments and programs, the business seeks ways to move sales and expenses to different states or countries with more favorable policies.

For example, this Wall Street Journal article described a Wal-Mart maneuver establishing an office in Florence, Italy, for the purpose of avoiding Illinois taxes.

The dispute with Wal-Mart is part of a wider effort by some states to crack down on what they believe is abusive use of so-called 80/20 companies. These companies are domestic subsidiaries that conduct at least 80% of their business overseas. States typically don't tax income from outside the U.S., and many companies have used 80/20 subsidiaries to legitimately shield foreign operations from state taxation.

The Commission's charter is to look for tax-related barriers to business investment and capital formation and for ways the business tax system can be simplified. So far, so good. But no government sets out to create a complicated tax system. It gets that way over time as individual and business taxpayers seek ways to pay less — and seek incentives that supposedly advance the public good.

Almost any change in the tax code contains potential for new mischief. If the Commission's recommendations can help state businesses without creating new losers and new loopholes, the members will have done great work indeed.

— Charlie Quimby

Toward a less regressive property tax with the Lenczewski-Marquart proposal

How regressive are residential property taxes? Very. Way. Hugely.

Households in the top 1 percent of incomes (those making more than $450,000) are projected by the 2007 Minnesota Tax Incidence Study to pay on average about 0.7 percent of their income in residential property taxes in 2009. A regressive tax means people who earn less would pay a higher percentage of their annual income in taxes, and that's exactly what we see with the residential property tax.

According to the study, the average Minnesota household will pay about 2.5 percent — more than 3 times the effective tax rate of the top-enders. Those earning just below the median income will pay about 3.5 percent of their income in property taxes — or 5 times the effective rate at the very top.

That's why it was so encouraging this week to see state Reps. Ann Lenczewski (chair of the Taxes Committee) and Paul Marquart (chair of the property tax subcommittee) come forward with a very straightforward reform proposal aimed squarely at reducing the regressivity. Their bill, H.F. 1222, is similar in some respects to legislation proposed last year that was even better, and which included the restoration of higher income tax rates to reduce regressivity. 

The latest Lenczewski-Marquart concept is revenue-neutral, meaning it doesn't cost taxpayers as a whole any more or less. But on average, according to preliminary research produced by legislative staffers, those with incomes higher than about $160,000 would pay modestly more and those with incomes below that level would get a bigger break.

The individual benefits and costs are highly variable and would depend on the relationship of a household's income to its property taxes. But if your property taxes amount to more than 2 percent of your income, you would be eligible for the new Homestead Credit State Refund.

Check out the Minnesota Budget Project's  take on the proposal in its new "Budget Bites"  blog. Also, check out news coverage of the proposals, along with positive reaction to the concept from Growth & Justice,  in both the Star Tribune and the Pioneer Press Tuesday.

— Dane Smith

Tax Policy: When is a good time for reform?

Here's how a Star Tribune editorial framed House Tax Committee Chair Rep. Ann Lenczewski's business tax reform bill:

Lenczewski's bill does what experts consistently urge. It eliminates a raft of special tax breaks in favor of a reduction in the corporate-tax rate paid by all — taking the rate down a full percentage point, from 9.8 to 8.8 percent.

[...]

Each of the tax breaks Lenczewski's bill would eliminate has powerful defenders, and is in the tax code for defensible reasons.

Everything in the tax code got there because of "defensible reasons," which are not always the same as sound tax principles.

We agree that lowering corporate taxes is a good idea, but we also agree with Rep. Lenczewski. At the very least, cutting business taxes must involve some kind of deal to replace the lost revenue — and supply side economics won't cut it. And as she understands, a revenue-neutral bill would simply keep us stuck where we are. Her bill would generate $100 million more in fiscal 2009 than the Governor's plan.

Business owners and investors would rather keep this unpopular tax than accept a cut and pay their share some other way. Here's why.

A tax levied on business is typically shifted to consumers (in higher prices) or to labor (in lower wages). Only after the first two shifts occur is any remainder borne by the business owners (in lower rates of return). Why trade subsidies and tax breaks — or worse, higher personal income taxes — for a cut in a tax you only have to pay a portion of?

The business tax eventually falls disproportionately on people with lower incomes. The Minnesota Revenue Department calculates this impact in its Tax Incidence Report [Download pdf]. The table shows the Minnesota Effective Tax Rates for 2009 by Population Decile, where you can see the lower half of earners pay a substantially higher percentage of their income in passed-through business taxes.

This makes business taxes virtually invisible to those paying them — that is, to the consumers and employees effectively paying them. In fact, many consumers support higher taxes on business because they don't understand the pass-through effect. 

Like scattershot fees, indirect or invisible taxes may be politically expedient ways of raising revenues, but they make it more difficult for taxpayers to fully appreciate how they pay for government services.

Unfortunately, most measures being considered to fix the budget deficit will increase the burden on middle- and lower-income households. Regressive sales taxes, fees and cuts to programs that serve the working poor drop a triple whammy on people already struggling to get by.

Now — while we're trying to deal with a state budget deficit — may not be the best time to work out such a fundamental issue of tax fairness. But if not now, when will we?

— Charlie Quimby

A strange way to help Minnesota families

Suppose you are in a working family, just barely getting by, in a state where “compassionate” tax-cutters say they are looking out for you.

If you’re in Minnesota, you’ll hear right away about a sales tax cut that benefits you hardly at all, while in the fine print of the same budget proposal  you might be among the more than quarter million  households who would lose a tax refund worth at least 30 times that much.

Here’s how that works:

The news release announcing Minnesota’s Gov. Tim Pawlenty’s revised 2008-09 budget proposal was headlined:               

GOVERNOR PAWLENTY PROPOSES BUDGET BALANCING PLAN; INCLUDES SALES TAX CUT TO HELP MINNESOTA FAMILIES

Further down in the detail of the actual budget document [ Download pdf ] was this item:

Adjustment to Renter's PTR

"PTR" is property tax refund, and the governor's "adjustment" lowers it by 20 percent. The cut doesn't help the current budget — it saves about $34 million a year starting in 2010 — but it does resurrect a move Gov. Pawlenty tried back in 2005, as City Pages then reported:

If he has his way, renters' credit will be slashed significantly beginning in fiscal year 2007. On average, renters will see a 20 percent decrease in their refund the first year … while some might not see any refund from the state of Minnesota at all.

Rather than fixing the current deficit, Pawlenty is trying again to give renters less money back for the portion of their rent that goes to pay the building owner's property taxes. According to the Minnesota Council of Nonprofits (MCN), over 271,000 households received renters' credit in 2007.

Administration officials argue that property taxes were reduced in recent years on rental property, so less relief for renters is necessary. But renters did not necessarily benefit from those tax reductions;  rents did not necessarily go down. 

Further, it must be noted that when efforts to eliminate tax breaks are proposed for high-income earners or corporations, tax-cutting enthusiasts tend to insist that the proposition is nothing more than a tax increase.

And for the renting households affected, this proposal certainly functions as a tax increase. It means they will effectively pay a higher percentage of their income in taxes, according to analysis done by Jeff Van Wychen of Minnesota 2020.

But let's put this in plainer terms. The “adjustment” imposes a sacrifice on those of us who can least afford it.

Renters who receive the refund for 2008 must earn less than $50,340. Statewide, roughly 29% are seniors or persons with disabilities, but in some rural counties the percentage can be twice that high [Download pdf ]. A 2006 study  by the National Low Income Housing Coalition found the average Minnesota renter made $11 per hour, and a Minnesota Housing Partnership study showed rent in Minnesota increased about 6 percent between 2000 and 2005, while the average income for renters went down by 15 percent.

Given increased foreclosures in Minnesota, it's safe to assume the number of financially stressed renters will go up.

But what about that sales tax cut to help Minnesota families?

Well, it will help some families, just not many of those losing out on the renter's credit.

As you can see in the table attached, households with modest incomes typically don't spend much of their budget on taxable items. [Cost of living budgets are shown for two Minnesota families based on calculations by the Jobs Now Coalition. The "Clothing" line item includes "other necessities."]

For a family of four making $50,000, most of the sales taxes they pay are levied against businesses and passed on to them in the price of products and services. It's unlikely they'll see any 0.125% business sales tax savings passed on to them through lower prices.

The Governor says his sales tax cut would save taxpayers $77 million during the current budget period. A fair estimate is that it would actually save only about $3 to $4 a year for a family earning $50,000, assuming 5% of their budget is spent on taxable items.

Meanwhile, if the Governor’s proposal passes, the average Minnesota renter will get $119 less in their renters credit — and 11,200 households won’t get any renters’ credit at all.

So much for helping Minnesota families.

— Charlie Quimby

Based on data provided by the Jobs Now 2007 Cost of Living in Minnesota Report, an estimation of minimum levels necessary for “liveable income.”

Progressive taxes AND real prosperity

Groups such as Minnesota Citizens for Tax Justice have been pointing to evidence since the mid-1980s that fair and progressive taxes do not necessarily hinder economic prosperity and growth. That argument is a central tenet here at Growth & Justice, and we've been a leader making the case for a more progressive tax structure in Minnesota since our founding five years ago. We're not territorial about this distinction or this issue and we're always happy to see other groups take up the fight.   

The latest to weigh in is Minnesota 2020 fellow Jeff Van Wychen, who has also worked with us on tax-and-budget issues, in a study that correlates progressity of taxes with indicators of economic vitality and quality of life.   

In an impressively documented study, Van Wychen shows that:

States with progressive tax systems do at least as well as states with more regressive tax systems in economic performance, business climate, and general livability...Why is this?  One explanation is that states with the most progressive tax systems are better able to finance the educational and transportation infrastructure and the public services that a modern economy requires because they don't shift a disproportionate share of the burden of paying for these investments to households with the least ability to pay.  The loss of high income households due to progressive taxation is offset by an increased ability to pay for public investments.

Despite the careful and understated tack taken by Van Wychen — and a finding only of a "slight tendency'' for states with more progressive tax structures to actually perform better economically — his work drew a sharp critique from conservative Minnesota Free Market Institute Fellow Craig Westover, and a counter-reply from Van Wychen.   

Westover, as usual, poses thoughtful questions and counterpoints but without evidence implies bad faith when he dismisses the study as "little more than (an) attempt to support a partisan position,'' and of "not even trying to get it right.''   

We agree with Van Wychen that if progressive taxes (in shorthand, tax rates that are higher on higher incomes than in states with regressive tax structures) really are bad for business, that evidence should have come through on at least one of his study's six bar graphs representing rankings of states on economic vitality measures.   

Moreover, for two decades, it's conservatives who have been the aggressors on this correlation front (progressive taxation is bad for rich investors) in their relentless crusade to undo the New Deal and the progressive tax structure that created it. And finally,  even Westover acknowledges that Minnesota was near the top on every business and life quality measure.   

Despite our decline in relative tax progressivity since the big income tax cuts earlier this decade, we still rank 11th in progressivity. If any state has done it right in matching progressivity and prosperity, it's us.

— Dane Smith 

Falling behind Wisconsin and Peircing analysis on states' fiscal woes

For years I've worked this friendly Minnesota-centric shtick about how good ol' Wisconsin is our closest relative, a kind of sister state that has a very similar history, culture and progressive instincts.  But the punch line is that they are cheeseheads and Packer fans after all, and just a little behind us for the title of Paragon of Progressive States, and not quite as far above average as a result.

  It's time to drop that routine from the repertoire and to acknowledge that the Badger State is more progressive and far-sighted economically than the Gopher State.  Lori Sturdevant's excellent Star Tribune OpEx piece and Q&A with Wisconsin Gov. Jim Doyle Sunday provides more evidence that Wisconsin is moving ahead with aggressive efforts to ensure more access to affordable higher education and health-care coverage.   Higher taxes (on cigarettes) and an imaginative partnership with business helps pay for this "human capital investment surge'' to the east, Sturdevant writes. 

When I was doing research in the mid-1980s for the Star Tribune for a fiscal study of Minnesota and other states, Minnesota unquestionably was one of the biggest spending states (and our economy was doing fine).  We ranked significantly ahead of Wisconsin on the bottom line:  state-local taxes and state-local spending as a percent of income.   That hasn't been true for several years now.   Latest figures from the Minnesota Taxpayers Association (not to be confused with the anti-tax League) show that Wisconsin ranks 10th in state-local taxes as a percent of income and Minnesota is 23rd.   On state-local spending as a percent of income, Wisconsin is 23rd and Minnesota is 31st.   Watch for right-wing business interests in Wisconsin to start making exaggerated claims about employers and jobs fleeing to low-tax Minnesota.  Boy that's going to feel weird.

Meanwhile, Neal Peirce, one of the nation's foremost authorities on the states and their governments, has produced a strongly persuasive case for states to reinvest, focusing on nation-state California.   His latest nationally synicated column makes the case and these excerpts get right at it:

Many states have never fully recovered from the sharp cutbacks they made in education, health coverage and child care in response to the economic slump of 2001-2004 that was triggered by the technology stock slump and the 9/11 terrorist attacks. And inflation is driving up the cost of government services.

So should governments just slash their budgets willy-nilly, hoping for a better day?

No. That's the firm opinion of Stephen Levy, director of the Center for Continuing Study of the California Economy in Palo Alto. Levy focuses his argument on California, but it fits most of the country. We have strong growth sectors in Internet services, biotechnology, trade, finance and entertainment. But with a tidal wave of skilled baby boomers soon to retire, our work force will include fast-rising numbers of Latino and Asian immigrants, their children and grandchildren -- many of them lagging in the critical educational skills needed in a high-tech, intensely competitive global economy...

But look at what California has done instead (of investing in education). From 1984 to 2008, it let its per capita spending on prisons increase 126 percent while its per capita spending on its public universities -- once its claim to world fame -- declined 12 percent. "Prisons," the Sacramento Bee editorializes, "are sucking the life out of higher education in this state -- and thwarting the aims of economic advancement and social mobility."

So what's Schwarzenegger's solution? Shorten sentences of 28,000 prisoners, saving $1 billion by the next budget year -- but still go ahead with his program to build 53,000 new cells at a numbing cost of $15 billion for construction and debt service.

A sane California, Levy argues, would raise taxes $7 billion this year, (our italics) recession notwithstanding. The increase would be about one penny out of every $2 that Californians -- whose aggregate income is about $1.5 trillion -- actually earn. The collective family of California, he suggests, can take the one cent from eating out or buying a fancy car and put it into education -- a small enough sacrifice compared to the kinds of tough decisions our grandparents had to make during the Great Depression.

Dane Smith

One place high fliers get a nearly free ride

Aviation isn't the first area we think of when we talk about transportation infrastructure in the state, but it's on my radar now.

On MPR's Midmorning today, one of the guests threw out an interesting number. Private aviation accounts for 15 percent of the costs to control our airspace, but provides only 3 percent of the funding. That's because the revenue formula is driven by commercial passenger ticket taxes.

I was driving as I listened, so don't quote me on the details. But the principle is pretty clear. A private jet carrying four people through airspace must consume nearly as much air traffic control attention as a commercial airliner, but the users of the private craft don't pay in proportion to that use.

Remember this example next time someone tells you it's unfair to ask high earners to pay higher taxes because they consume less government service.

— Charlie Quimby

On WCCO-AM, Talking Presidential Politics (and Growth & Justice)

Writing and speaking publicly in behalf of our fine cause - more and smarter public investment in behalf of the common good, and building a wider prosperity in Minnesota - is  rewarding work. And it's just about my favorite role as president of Growth & Justice, up there with policy research and digging into tax-and-budget spreadsheets. (It's funner than you might imagine). 

But occasionally I'm asked by my former colleagues in the news media to offer my two cents on the broader politics-and-government scene, on the shaky assumption that I might have something useful to say after a 30-year career covering and writing about politics and government for both the Star Tribune and the St. Paul Pioneer Press. Of course I ALWAYS acccept the invitations to speak about Growth & Justice. And I USUALLY try to accept the requests for political chatter. I figure I can at least get some words in edgewise, during the latter, about the former. I bring this up because I was honored to be asked twice this month to talk on WCCO-AM about presidential politics, with a focus on the Iowa and Minnesota caucuses. On the evening of Sat. Dec. 15, I was on for an hour with my long-time colleage Dennis McGrath, a senior editor at the Star Tribune, and CCO host Esme Murphy, best known as a veteran and versatile WCCO-TV reporter. Didn't get much chance to sell the G&J message on Dec. 15, but every time in and out of the station breaks, our name and description of us as a progressive think tank was repeated.

Today (Friday, Dec. 28) I got an unexpected early-morning call from CCO, again with a request to talk about presidential politics, this time with the delightfully wry Tim Russell (man of a thousand voices, Prairie Home Companion star).  And this time, on prime drive-time airspace, I got a chance to give the brief Growth & Justice "elevator speech'' and spell out our website address. And also I got a chance to raise some serious doubts about the fairness of presidential  candidate Mike Huckabee's proposal to scrap  the strongly progressive federal income tax,  and the Internal Revenue Service, in favor of a national sales tax.

Dane Smith

Professor says Minnesota tax system closest to Biblical principles

Which state comes closest to having a tax code derived from Biblical principles?

It's Minnesota, according to this Christmas day article in the New York TImes, which cites an Alabama law professor and expert on tax avoidance for small businesses. Professor Susan Pace Hamill also holds a degree in divinity from a conservative evangelical seminary.

Her study of the religious and moral basis of tax policy ranks Alabama worst among the states. Now, other scholars are starting to address the topic, according to the Times.

“The Bible commands that the law promote justice because human beings are not good enough to promote justice individually on their own,” [Hamill] said. “To assume that voluntary charity will raise enough revenues to meet this standard is to deny the sin of greed.”

[...]

Professor Hamill, by her reading of the New Testament, concludes that at least a mildly progressive tax system is required so that the rich make some sacrifice for the poor. She cites the statement by Jesus that “unto whomsoever much is given, of him shall be much required, and to whom men have committed much, of him they will ask the more.”

Some of her critics, however, say that the tithes described in the Old Testament show that a flat tax, in which everyone pays the same share of their income to government, should be seen as the biblical standard.

[...]

Professor Hamill said her research found that just one state, Minnesota, came within reach of the principles she identified, because its tax system is only slightly regressive and it spends heavily on helping the poor, especially through public education.