A letter recently published in the Star Tribune claims that “wealthy” households “use government services the least, including education, fire and police.”  This assertion is at best questionable.

Suppose that I own a successful widget company.  I not only benefit from my own education, but from the education of my workers, which allows my company to be more productive and profitable.  Insofar as these workers are educated in public schools, I am benefiting from public investment.  I am also benefiting from public transportation infrastructure, which allows me to transport goods to and from my business.

The profitability of my business is also dependent upon a court system that enforces contracts and protects property rights.  Furthermore, high income households benefit proportionally more from public safety functions geared to protecting property because they own more property.  For example, Senator John McCain, who owned seven houses at the time of the presidential election, benefits more from police and fire protection than does the typical U.S. family who owns or rents only one.

Currently high income households pay less state and local taxes per dollar of income than do other Minnesota families.  Tax dollars support a system of public services and infrastructure geared to protecting property rights, promoting commerce, and enhancing the social stability from which high income households derive the most benefit.  For this reason, it is only fair that these households pay for this system in proportion to their income.  This is not “socialism” or “class warfare,” but simple tax fairness.

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Earlier this week, the Senate Tax Committee met to discuss the Governor’s proposal to amend the constitution to cap state spending.  The state already has a constitutional requirement to balance the state budget; all Pawlenty’s amendment would do is require that general fund spending in the current biennium equal the revenues generated in the last biennium.  Thus, if there’s a deficit, the problem could only be solved by cutting spending, not increasing revenue, thereby reducing the options open to state policymakers, restricting the ability of government to respond to the demands of the public, and ensuring that the “no new tax” tribe win every dispute on deficits.

At one point during the Senate Tax Committee discussion of the amendment, Senator Tom Bakk (Cook) said that income taxes and the overall “price of government” (i.e., total state and local own-source revenue as a percent of statewide personal income) has declined over the last decade.  To this point, Senator Warren Limmer (Maple Grove), an amendment supporter, argued that sales taxes and property taxes have increased in recent years.

Both senators were correct.  While specific taxes have increased, others have declined and the overall size of government relative to statewide personal income has declined.  Sadly for low and moderate income families, regressive taxes (sales and property taxes) have increased as a share of total public revenue, while progressive taxes (the income tax) have shrunk.  These trends have shifted a larger share of state taxes on to those families with the least ability to pay.

While Senator Limmer is certainly correct that property taxes have increased, Pawlenty’s constitutional spending amendment will only accelerate this trend.  During the “no new tax” era, state government has solved its recurring budget problems largely by cutting state dollars shared with counties, cities, and schools, thereby compelling local governments to simultaneously cut budgets while increasing property taxes.  The fiscal straightjacket imposed by the amendment will constitutionally guarantee similar outcomes in the future; the state will not be able to solve any portion of its deficit problem through an increase in state taxes, so it will of necessity continue to chop away at the property tax relief dollars that the state shares with local governments.  This will cause even more public costs to be shifted on to low and moderate income families.

Pawlenty’s constitutional spending cap falls under the broad category of proposals known collectively as “taxpayers’ bill of rights.”  Dane Smith, President of Growth & Justice, hit the nail on the head when he told the Senate Tax Committee that the proposed constitutional amendment could be more aptly called a  “taxpayers’ bill of goods.”

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According to her campaign website, gubernatorial candidate and former Minnesota Free Market Institute President Patricia Anderson wants to:

“Reform the state tax system by reducing and eliminating inefficient taxes – taxes with high marginal rates imposed on a small tax base that produce inconsistent revenue with fluctuations in the economy – and replace the revenue through efficient taxation – low-rate taxes imposed on a large tax base that produce more consistent revenue streams.”

Anderson’s proposal is consistent with conventional economic thought which calls for a broadening of tax bases and a lowering of tax rates.  One specific approach suggested by Anderson is to eliminate or reduce corporate income taxes and replace an unspecified portion of the revenue loss through broadening the state sales tax base.

However, there are right ways and wrong ways to implement this strategy.  Significant tax changes must be evaluated in terms of how they affect the distribution of taxes.  Currently Minnesota’s tax system is regressive, meaning that low and moderate income families pay a higher percentage of their income in state and local taxes than do high income families; furthermore, Minnesota tax system is becoming more regressive over time.  This is unfair.  According to the 2009 Minnesota Tax Incidence Study, sales taxes are modestly more regressive than corporate income taxes.  Thus, in the absence of other changes, a shift to increased sales taxes and reduced corporate income taxes could increase the regressivity of Minnesota’s tax system.

This is not to say that the proposal to reduce corporate income taxes and increase sales taxes should be rejected out-of-hand.  However, corresponding changes, such as an increase in earned income tax credit, may be necessary to prevent increased regressivity.  Too often, “small government,” libertarian-style candidates are dismissive or oblivious to concerns about regressivity.

A discussion of how we collect taxes is important.  However, equally important is the question of how much we collect.  Minnesota’s looming budget deficit is in large part the due to declining real per capita state and local government revenue.  The decline in revenue is not just the result of the national economic crisis; inflation-adjusted state and local government revenue in Minnesota was declining even before the financial debacle that occurred in late 2008.  In real per capita dollars, as a percentage of the state’s economy, and relative to the rest of the nation, public revenue in Minnesota has declined significantly over the last seven years; the reduction in public revenue and investment has corresponded with a deterioration in Minnesota’s economic performance relative to other states.

Like many candidates on the far right, Anderson buys into the mantra of rampant government growth.  Her website is littered with references to “government’s endless demand for more revenue” and “ever-increasing” taxes.  These statements demonstrate devotion to ideology that trumps commitment to facts.  In this regard, Anderson is not the worst or the only offender.

Anderson argues that “There are only two alternatives — raising taxes… or making real, dramatic public sector reform.”  In reality, these two alternatives are not mutually exclusive.  In order to balance Minnesota’s projected $6.4 billion deficit, we must both increase public revenue and reform and prioritize public spending.  Be wary of candidates that posit a false “one or the other” approach.

The question of how Minnesota taxes its residents is important and must be addressed.  However, we must also focus on generating enough public revenue to pay for necessary investments in education, infrastructure, and public services.

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A letter in the Saturday Star Tribune gave a striking example of how some do not understand the fundamentals of the tax proposal that the Minnesota House and Senate passed during the recently completed legislative session and vetoed by the governor.

The letter writer complains that the tax increase would have inflicted “financial pain” on citizens who are struggling to “make their mortgage payment.”  In fact, most of the new revenue in the bill passed by the House and Senate came from an income tax increase on households making over $250,000 a year.  It is unlikely that these households are struggling to meet mortgage payments or satisfy any other basic need.  In fact, these high income households pay a lower percentage of their income in state and local taxes than do low and moderate income households.

Since the governor has vetoed the tax bill, the state’s budget will be balanced by terminating health care coverage for low-income families and by disproportionate cuts in state dollars that are shared with local governments; a portion of these cuts will translate into property tax increases.  In addition, the governor could effectively increase the share of property taxes borne by renters by cutting the renters’ property tax refund, as he proposed in his 2009 budget.  The policies endorsed by the legislature would be far better for low and moderate income families than what the governor has done through line-item vetoes and what he will do through unallotment.

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In March, I wrote about Governor Pawlenty’s proposal to increase property taxes on Minnesota renters by slashing the renters’ property tax refund program by $50 million annually.  Since that time, the Minnesota Department of Revenue has released an updated Minnesota Tax Incidence Study (MTIS).  Based on the new MTIS, it is possible to update the tax incidence analysis in the March article.

In a regressive tax system, a disproportionate share of taxes is shifted on to those with the least ability to pay.  The Suits index measures the degree of tax regressivity or progressivity.  A negative Suits index denotes tax regressivity; the further below zero, the greater the degree of regressivity.  For more on the Suits index and the significance of changes in the value of the Suits index, please refer to Minnesota 2020′s April  29 regressivity analysis.

The graph below shows the rental Suits index in 2004 and 2006 and the projected Suits indexes for 2011 under current law and after the $50 million cut to the renters’ refund proposed by the Governor.

The Suits index for rental property taxes in 2004 was -0.09, which denotes significant tax regressivity.  By 2006, the Suits index dropped to -0.22.  Based on projections of current law for 2011, the rental Suits index will fall even further to -0.25, which denotes extreme tax regressivity.  The large decline in the Suits index over this period is due primarily to the failure of the renters’ property tax refund to keep pace with growth in rental property taxes.

The Governor’s proposal to whack $50 million from the renters’ refund will take a tax that is already extremely regressive and make it even worse.  The approximate rental property tax Suits index after the Governor’s proposed cut would be -0.30.

The Governor’s proposal to cut the renters’ refund will further accelerate the slide of rental property taxes into the realm of extreme tax regressivity.  In fact, on a dollar for dollar basis, nothing exacerbates growth in tax regressivity more than a cut to the renters’ refund.  State policymaker need to stand firm and reject the assault on tax fairness represented by the Governor’s cut to the renters’ refund.

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