We think of state government taxing Minnesotans and then using the money for some desired end like educating children or cleaning the air.
But there’s another way government works that is less visible but often just as far reaching: by creating a tax credit or exemption that will encourage some behaviors and discourage others.
So, rather than building lots of houses for people, the Legislature encourages Minnesotans to borrow the money to buy a home by allowing them to deduct the interest they pay on their mortgage from their tax bill.
These devices — more than 300 in the Minnesota tax code — are called “tax expenditures,” and they are expensive. Adjustments to the income tax alone cost the state $6 billion in revenue, according to a recent report by the Department of Revenue.
Minnesotans of nearly every walk of life benefit from these tax breaks. Some, like tax-free clothing purchases and tax breaks for working families, benefit many. Others, like tax-free horse purchases or bovine tuberculosis tests, affect just a few.
Unlike spending on programs like schools or roads, tax expenditures do not have to be approved every two years when the Legislature signs off on the budget. Tax expenditures continue forever unless the Legislature repeals them. They can grow without limit. And, if not for these occasional reports, few people would even know how much revenue is lost to all the tax advantages because they do not show up in the state budget as a line item.
A battle over these tax breaks last flared in 2011, when the state faced a $5 billion deficit and legislators were scrambling to find every dollar they could. But in the end, legislators opted not to make major changes.
Economists across the political spectrum are in rare agreement on this issue: There are advantages to eliminating these tax benefits and using the corresponding savings to lower tax rates, which would result in a simpler system and leave economic decisions to the fate of markets rather than legislators.
Easier said than done.
Rep. Greg Davids, R-Preston, chairman of House Taxes Committee, summed up the problem: “They say we should cut all these loopholes and deductions, but when you start talking about which ones should we get rid of? Well, all of them, except the ones I use.”
Davids imagined the electoral bloodbath for the legislators who cut popular deductions and credits like mortgage interest, child care and certain kinds of military income: “If we get rid of all these, there’s not too many of us who are going to win the next election,” he joked.
But he also noted the administrative complexity of removing certain tax benefits. So for instance, if Minnesota eliminated the mortgage interest deduction, residents would receive the benefit from the federal government but not state government, making tax filing more complicated.
Finally, there are the lobbyists, whose job is often to protect lucrative tax benefits: “A lot of money is spent to make sure things don’t change,” Davids said. In other words, tax expenditures are here to stay.
J. Patrick Coolican 651-925-5042 Patrick.Coolican@startribune.com