Dayton eyes tax cuts with projected $1 billion state surplus

Buoyed by news of a projected $1 billion state budget surplus, DFL Gov. Mark Dayton said Thursday he is prepared to seek millions of dollars in tax reductions.

The projected surplus is part of an economic forecast released Thursday that shows Minnesota is moving solidly into the black, with strong job and wage growth that is outpacing the national average.

"This is a great place to be," Minnesota Management and Budget Commissioner Jim Schowalter said of a budget picture that appears to end the state's most harrowing fiscal crisis since the Great Depression.

Dayton said he won't make a formal proposal on tax cuts until February, when the state will get a second economic forecast and the Legislature will come back into session.

"We know we are very early in the biennium and there are a lot of uncertainties out there," said Schowalter, head of the state budget office. "We want to make sure any changes we do make are sustainable."

The change of fortunes allows the state to pay off the last of the $2.7 billion it borrowed from K-12 public schools while mired in recession, along with money the state borrowed from the airports fund in 2008.

That still leaves $825 million for tax breaks, more spending or other needs just as Dayton and legislators head into an election year.

Dayton would use that money to eliminate the three business sales taxes created earlier this year that have prompted blistering attacks from the business community, particularly a sales tax on warehousing services.

He's also eyeing tax breaks for middle-income families that would eliminate the so-called marriage penalty and boost the working family tax credit. Combined, those measures could reduce state taxes for about 700,000 taxpayers.

Republicans blasted Dayton for wanting to impose tax breaks months after he and a DFL-controlled Legislature raised $2.1 billion in revenue, mostly through income tax hikes on high earners.

Senate Minority Leader David Hann said he is skeptical of Dayton's commitment to lowering taxes eight months after raising them.

"We will help keep that promise," said Hann, R-Eden Prairie.

In the meantime, legislators and DFL-aligned interest groups already are making their pitch for a share of the money, with many more lining up to press their case.

Growth surging

The state's changing fortunes stem in part from economic growth that is among the best in the country.

At 4.8 percent, Minnesota's unemployment rate is among the nation's lowest. Every major nonfarm industry is posting gains, with the exception of manufacturing and federal employment. The state has recovered all 150,000 jobs lost during the recession years, and even the long-struggling housing industry is coming back.

In addition to surging growth, the state is just collecting more tax revenue, including from upper earners and businesses. Individual income tax collections account for $500 million of the projected surplus.

The state is also expecting improved corporate profits to contribute $2.6 billion in state taxes, about 10 percent more than predicted.

The economic picture might have been even stronger, the forecast report noted, but for the damaging effects of a federal government shutdown and sequestration cuts on the state.

"These things have taken a toll on consumer confidence, spending, investment and hiring," said state economist Laura Kalambokidis. However, she said, "the fundaments for solid growth are in place."

Those fundamentals are at least partly why state budget officials are predicting an even larger $2.2 billion windfall in the 2016-17 budget year, although predictions that far out seldom hold.

Spending down

Spending is projected to drop by $247 million over the next two years, which helps push the surplus over the $1 billion mark.

About half of that lower spending is due to anticipated savings from the Department of Health and Human Services, said Margaret Kelly, state budget director. Changes in a program for the elderly contributed to much of the savings, she said. The state also expects to pay less for the federal Medicare prescription drug program.

Debt burden for long-term construction projects also is expected to shrink. An analyst from Moody's Investors Service credits Minnesota for having a small, manageable debt load.

Tough to predict

Dayton said that if the state's financial numbers hold up by the time legislators convene in February, he would consider borrowing an additional $200 million to continue improving the state's roads, bridges and buildings. Legislators want to borrow about $850 million for construction projects in the upcoming session.

"I think we can completely justify having it done," Dayton said.

But state officials will have to move cautiously.

The budget snapshot accounts for fewer than six months of the two-year budget cycle. If legislators hastily spend the money in the coming session, an economic downturn could force them to return to make cuts, raise taxes or drain reserves again. Forecasters note that another meltdown in Washington, D.C., over the debt ceiling or other budget issues could trigger such a downturn.

There is also more volatility built into this forecast, because it relies heavily on a new income tax tier for the state's highest earners. High earners get much of their revenue from non-wage sources, such as bonuses, that can rise or fall quickly.

That makes revenue from the new tax tough to predict, unlike trends of the other taxes they have been able to study for years, Schowalter said.

That uncertainty is at least partly why Dayton said he will wait until after the next forecast before offering a supplemental budget.

"I don't want to fall into that trap of overpromising," he said.

Republican critics

Republicans said DFLers already have a wish list far exceeding the surplus.

"Democrats are doing a victory lap because the state has more money," said House Minority Leader Kurt Daudt, R-Crown. "We can't … say the finish line is behind us. I don't know if we're even halfway there."

He and other Republicans said the surplus proves that the DFLers raised too much in taxes.

The money, Hann said, shouldn't be in government hands, it "should be back in the economy."

Dayton took direct aim at Republican critics who hammered his tax proposal.

The governor noted that he ran — and won — on a pledge to balance the budget fairly and that his tax proposal had strong public support.

"Critics claimed this balanced fiscal approach would have a chilling effect on Minnesota's economy," Dayton said. "Today's forecast proves those critics wrong."

Staff writers Rachel E. Stassen-Berger and Jennifer Brooks contributed to this report.

Baird Helgeson • 651-925-5044