State tax policy changes are usually about incremental change — a structural tweak here, a new exemption there. When something bigger would reduce tax collections, the immediate reaction is to ask, “How will we pay for it?”

That’s an important question, but sometimes the policy rationale is compelling enough that change should still be pursued.

Such is the case with Minnesota’s State General Property Tax, which will cost business property and cabin owners over $850 million this year. It’s time to start phasing out the state general property tax, as this year’s House tax bill would do.

To understand why, it’s important to have some background on this tax. For starters, there was no principled tax policy justification for creating it in the first place. Instead, it was a political necessity to pass Gov. Jesse Ventura’s property tax reform initiatives in 2001 (also known as the “Big Plan”).

One of the proposal’s key objectives was to reduce the property tax subsidies that business properties provided to homeowners. Based on Department of Revenue data, Minnesota businesses paid $3.65 in property taxes for every $100 worth of property they owned in the year prior to the reform — more than three times what homeowners paid. Reducing this subsidy, as the Ventura reforms did, provided business tax relief while improving local accountability by making local elected officials’ tax decisions more visible to homeowners. Importantly, the reforms also eliminated the state-mandated general education levy. This move helped offset the impact of shifting a share of business property tax burdens onto homeowners.

The political problem was that these changes created the impression that business was getting “too good a deal.” Policymakers needed to put something else in place to offset an appearance of a business giveaway and make business contribute to the cost of the education levy takeover. So, a state levy on business and cabin properties was created.

Since 2002, this state levy has grown about 40 percent faster than inflation. As a result, the burden it imposes has become a growing concern for Minnesota’s businesses. It is routinely the largest line item on a business’ property tax bill, commonly adding 33 to 50 percent on top of the total local tax bill.

This tax is especially significant for rural Minnesota businesses, which, when compared with other rural areas, have some of the highest property taxes in the nation. And even without the state levy, Minnesota businesses’ property tax bills per $100 of property value are still twice those for homes. For these reasons alone, the tax merits reconsideration.

But the main reason to start phasing out the tax is to protect the integrity of local government finance. The property tax is the most resented form of taxation, but also the most indispensable for local governments. It’s the tax local governments depend on, and the one they should be able to claim as their very own. When the state burdens property owners with its own levy on top of local taxes, it makes local government finance more difficult, leading to even more resentment.

Could we perhaps keep this tax but give the revenues directly to school districts and other local units of government? That idea got a lot of attention when the state created the tax, but there are two big problems. First, history provides abundant evidence that the state will rethink these promises whenever its budget is under stress. Second, even if lawmakers resisted that temptation, they would still be in the hyper-politically-charged situation of designing a fair way to appropriate that money across all types of local government and all areas of the state. That would make our nearly 50-year struggle to find a way to distribute city aid fairly look like child’s play.

Property taxes need to be reserved to pay for the services local governments provide. For this reason, in 2012 the bipartisan Property Tax Working Group made up of state and local elected officials and property owners recommended that the state “eliminate the use of property taxes for state funding.” Unlike the state, local governments are extremely limited in their revenue-raising options.

As one noted scholar has observed: “Among many public finance economists it is almost dogma that local government reliance on the local property tax is a good thing.” As a result, we should always look for ways to improve the structure and function of Minnesota’s property tax system. One important way is to get the state get out of the levying business.

 

Mark Haveman is executive director of the Minnesota Center for Fiscal Excellence.