State tax breaks add up, annual report shows

It’s the $15.5 billion that no one talks about.

Maybe it’s because the term, “tax expenditures,” sounds wonky or sends people scurrying away in fear that it’s a more complicated issue than they want to confront.

“I know that you’re out door-knocking a lot over the course of the year,” Rep. Paul Marquart (DFL-Dilworth) said to the House Taxes Committee Tuesday. “But I’m willing to bet that there’s one question that you’ve never, ever been asked. And that is: ‘What are you going to do about the tax expenditure budget?’

“That’s because a big portion of our budget is under the radar. And people don’t ever really see this. It’s not scrutinized like other areas of the budget are. But last year, it was about $15.5 billion in tax expenditures and that’s about half of our annual budget.”

Last year, the Legislature and governor agreed to shed some light on this mysterious branch of the budget. As part of the 2021 tax bill, a Tax Expenditure Review Commission was formed, its members being eight legislators (four from each party) and the commissioner of revenue, with the taxes committee chairs of the House and Senate acting as ex-officio members.

On Tuesday, Eric Willette, the Department of Revenue’s director of tax research, presented to the taxes committee the state’s annual tax expenditure report, which will provide the foundation for that new review commission’s work.

So what are tax expenditures?

“Some of the best examples are the mortgage interest deduction and charitable contributions,” Marquart said. “No sales tax on clothing would be another one.”

In other words, state tax code policies that reduce state revenues and allow filers to deduct, subtract or otherwise omit certain amounts from the taxes they owe. There are 315 of these exemptions and tax breaks in the state tax code, spread out over 15 categories.

The mission of the new commission is to look at these pieces of state tax policy – some of which have received almost no scrutiny since enacted – and try to determine what they’re intended to accomplish and if we’re getting decent bang for our bucks.

So what are the big ticket items among these tax policies?

The annual tax expenditure report estimates the financial difference that a given expenditure makes to the state’s General Fund. For example, if we had sales taxes on “selected services” (granted, a broad category), it’s estimated the state would receive $3.8 billion more revenue this year. If we had a sales tax on food products, that would account for $1.04 billion.

In individual income tax deductions, the big numbers are in deductions for employer pension plans ($1.93 billion) and employer contributions for medical insurance premiums and care ($1.47 billion).

The report is also useful in figuring out what tax deductions and exemptions get used by state residents. For example, as of December 2019, about 1.1 million Minnesotans received Social Security benefits, while another 1 million were enrolled in Medicare, both of which have related exemptions.

The most popular individual income tax deduction is the one for charitable donations for non-itemizers (617,800 returns in tax year 2021), while the most popular tax credit is the marriage credit (433,010 returns in 2021). The working family credit was claimed by 393,900 filers in 2021.

The review commission’s first report is expected in December.

“As far as transparency, this is the most important thing we did last year,” Marquart said.