State policymakers who are looking to close some of the income inequality gap by changing the structure of our state income tax system really need to look for a fresh idea.
There are already much higher tax rates for people who make a lot more money, making ours a highly progressive tax system. And one takeaway from a detailed study out this week is just how little practical room there is to make it even more progressive.
It could be tried, of course, but an upper-income Minnesota couple already pays 40 or even 50 percent more in state income taxes than the national average for people at the same level of income. Is it really wise to ask them to pay even more and not expect them to rethink where they want to live, work or invest?
The tax study this week was from the Minnesota Center for Fiscal Excellence, a small nonprofit in St. Paul that researches taxes and government spending, making sure to stay out of partisan battles.
It has done these income tax studies before, but this was the first in-depth look at personal income taxes on a state-by-state basis since the adoption of the so-called fourth tier tax rate of 9.85 percent in Minnesota.
The center ran 38 hypothetical taxpayers through the tax systems of all the states that have a personal income tax, including the District of Columbia. It turns out that it’s actually possible, in certain tax situations, for high-tax Minnesota to finish at the very bottom of a list of income tax burdens.
That taxpayer is a Minnesota couple filing jointly with $35,000 of income. We were dead last, 42 out of 42, in tax burden for that kind of family. In fact that family got a tax credit, effectively paying less than zero in income taxes.
Perhaps having no income tax burden on lower income people is to be expected here, as Minnesota has long had a progressive tax system. That’s a system based on the idea that taxes should be tied at least somewhat to the ability of the taxpayer to pay. People who can afford to pay more should do so.
It’s also no surprise that not every state has Minnesota’s approach. It sure isn’t the way it’s done in Alabama, which had the highest tax burden for low income people of the 42 in the study and the second-lowest income tax burden for joint filers making $500,000 or more.
Here a progressive tax system is so baked into the culture, said Center for Fiscal Excellence Executive Director Mark Haveman, that he can remember legislators seriously debating how it might be possible to make taxes on liquor sales cheaper for a regular Joe buying a six-pack of beer while hiking them for the costly purchases of wine snobs.
In looking at a chart of Minnesota personal income taxes, generally the higher the number in the column labeled income, the higher the state is ranked on income tax burden among the 42 in the study.
At $50,000 of income, the state came in 23rd on the ranking of tax burdens for married joint filers. At $100,000 in income, the state moved up in the ranking to 15th and jumped again, to eighth, at $250,000 of income.
Here on the table of figures is about where the so-called fourth-tier tax rate of 9.85 percent kicked in. It’s what powered Minnesota up to second place on the list of tax burdens for a joint filer with income of $500,000.
The only state ranked higher than Minnesota for this taxpayer was Oregon. What’s interesting about Oregon is that it makes do without a state sales tax, relying much more heavily on income taxes.
At $500,000 of income, a joint tax filer paid Minnesota state income taxes in 2013 that were more than 40 percent greater than the national average. At $1 million in income it jumped to 50 percent more.
The interesting thing about partisan debates over tax policy is that some advocates may look at a state income tax bill 50 percent more than the national average and think it’s fair. After all, these people enjoy a good life in Minnesota, make $1 million a year and should be able to easily pay their state taxes.
On the other side of the aisle there will be advocates who look at the same set of facts and scream about its unfairness.
What’s a “fair” tax is a highly subjective measure. Haveman, speaking for a nonpartisan group, isn’t going to make that call either way.
What he does want to see, though, is smart policy. And so legislators really should carefully consider the evidence that high tax rates relative to other states for upper income people really will change those people’s behavior.
Haveman pointed to two recent studies that are well worth reading. The more interesting one found a “significant effect” of high relative taxes on where “star scientists” choose to live. It doesn’t happen right away but will show up in the data over a longer period of time. On a per capita basis, Minnesota happened to have more of these star scientists, identified through patent searches, than other top-performing peer states.
The Center for Fiscal Excellence isn’t arguing that the state needs a less progressive system of government. That’s up to elected officials to figure out, Haveman said, but if doing more for lower income people is what they want to do, they have to look at other parts of state government. As an example, he said, they might reconsider why we in Minnesota have a very progressive income tax system yet a family can have a household income of more than $100,000 and still be eligible for a property tax refund.
“We’ve pulled the [progressive] tax policy lever as far as it can be pulled,” he said. “The sooner we move on to something else, the better.”
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