Thursday, September 16, 2010

Solving Mark Dayton's Math Problem

Mark Dayton's campaign has recognized a fundamental problem with taxation in Minnesota; the wealthiest 10% of taxpayers are paying an increasingly smaller share of their income than the rest of us. The impact of state and local taxes, as a percentage of income, falls heaviest on the middle class in Minnesota. If the wealthiest 10% (and especially the richest 1%) paid the same share of state and local taxes that the middle class pay we'd be a long way toward solving the nearly $6 billion budget deficit.

The problem is getting the tax system to align so that the wealthiest do pay their fair share of taxes. And let's be absolutely clear - we're not even talking about a truly progressive tax system where the wealthy pay a greater share of their income in taxes. We're talking about getting to a state and local flat tax, roughly.

The problem with Mark Dayton's original proposal of increasing the top income tax tier to 10.95% is that relying entirely on the progressive income tax to balance out other regressive taxes won't be sufficient. The Minnesota Department of Revenue demonstrated that when they ran the numbers and found that Dayton's proposal would only raise $1.9 billion. That gap between $1.9 billion and the $4 billion that he sought needs to be filled with revenue that comes from the top decile or it will not get us to a roughly flat state and local tax impact.

One area that Dayton ought to consider is to make the arcane and complex property tax system in Minnesota more progressive. There have been a number of proposals that have been floated in Minnesota and a couple of states that have made tentative steps in this direction. Done carefully and thoughtfully, the property tax burden on middle class taxpayers can be held flat while targeting property tax increases on the wealthiest Minnesotans.

Consider the following chart from Minnesota House Research, outlining the percentage of market value in each property category and the percentage each property category pays in property taxes.

Note that there are a couple of disparities that, if corrected, would move us toward a more progressive property taxation system. First, seasonal recreation property is paying only 60% of it's proportion of value. Second, residential nonhomestead property pays less than it's share of overall property value. A progressive property tax system would tax second (or third) properties and vacation homes at a higher rate. This is not to say that all property categories ought to pay their exact proportion of market value in property taxes. For example, the choice to tax homesteads at a lower rate reflects a desire to avoid regressive taxation impacts on someone's primary residence.

Increasing the progressivity of the property tax system can be accomplished through a variety of means. As MN2020 described, one technique is to eliminate property tax credits that are not tied to income in favor of property tax refunds tied to ability to pay. Or more simply, one could add more taxation levels tied to property value. For example, there are two rates for homesteaded property in Minnesota, one for property values below $500,000 and one for properties above $500,000. One could add a third tier for even higher property values that was levied by the state for the purpose of increasing state revenue. Or there are other techniques one might use (taxing on the basis of square footage, etc.)

Keep in mind as well that people who establish residence in other states for the purpose of avoiding income tax can't move their property from Minnesota in the same fashion. If one goal of Dayton's revenue proposals is to ensure that snowbirds pay their fair share of taxes, a graduated property tax (especially one focused on non-homestead and recreational property) might be the best way to do that.

Property taxes represent the largest portion of state and local taxes collected in Minnesota, slightly larger than income tax. And while only a portion of the property tax collected goes to the state, one of the categories I described above does go to state coffers (recreational property.) There could be state surtaxes on the highest end property for the dual purpose of raising revenues and increasing progressivity.

The Department of Revenue's analysis of Mark Dayton's income tax proposal demonstrates that income taxes alone cannot ameliorate the regressivity of other tax categories. A well crafted property tax proposal could be targeted at the wealthiest and help Dayton achieve his goal of ensuring the wealthiest in Minnesota pay their fair share of taxes.

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blogspotdog said...

More progressive taxation is the stated goal of the Dayton campaign, and recent number crunching reveals that the budget deficit cannot be closed with income taxes alone. Aaron's post is an interesting approach to making up some of the difference. We've used the "surcharge" idea before on income taxes, too.

Since maybe a third of the budget deficit for the next biennium comes from delayed school aid payments -- and assuming for a moment were aren't going to do that again -- the idea that we'll have a tax, or a portion of a tax, that's collected until we've paid the "debt" to school districts is intriguing.

Tom said...

Just triple the tax on the rich.  After 8 years of bashing T-Paw for raising property taxes the DFL certainly can't join in now for gosh sake.  And shouldn't we be trying to make the tax code less complicated?