Chamber of Commerce Tax Policy Proposal Draft

8/10/2019 Chamber of Commerce Tax Policy Proposal Draft

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2015 POLICIES

PERSONAL INCOME TAX DRAFTISSUE Are further personal income tax changes needed to make Minnesota more attractive to operate abusiness and to best position Minnesota for strong economic growth?

POLICYThe structure of the personal income tax rates and tax base is an important component of Minnesotasbusiness climate and competitiveness. 92% of Minnesotas businesses are pass -through entities,including its smallest and newest (sole proprietors, limited liability companies, partnerships and S-

corporations). These businesses pass through business income to the owners personal income taxreturn, making the personal income tax just as important to Minnesotas business climate as thecorporate income tax. The personal income tax is not only a ta x on employee compensation, but its alsoa tax on the vast majority of businesses.

In todays world of global competition and increased mobility, tax burdens and costs do matter. It isimportant for Minnesotas tax burdens to be competitive with those of other states and nations in orderto have a strong and growing economy. Economic growth ultimately comes from production,innovation and risk-taking. Studies have found that high marginal rates detrimentally impact businessinvestment decisions, entrepreneurial activities, and recruitment of talent the very items needed for

economic growth. In the 2013 session, a new forth tier was added to Minnesotas income tax,increasing the top rate from 7.95% to 9.85% for married filing joint filers at $250,000 of federal taxableincome and $150,000 for single filers. The 2013 tax increases raised individual income taxes by $1.1billion, impacted over 21,000 business filers and the majority of pass-through business income. Theincome tax is a critical compone nt of Minnesotas competitiveness as follows:

The individual income tax impacts the vast majority of business entities as 92 % of businesses arepass-through entities. Businesses both small and large are organized as S-corporations, limitedliability companies (LLC), partnerships or sole proprietors and flow their business income through tothe owners personal income tax return. i

Minnesotas top rate is now second highest at some incomes and fourth highest overall behindCalifornia, Hawaii and Oregon (Oregon does not have a sales tax) . Minnesotas top rate is nowmuch higher than our bordering states. ii

High tax rates mean less money available for investment in the business and its employees. Pass-through income is taxed even if it is not distribu ted to the owners/shareholders. This phantom


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2015 POLICIES PERSONAL INCOME TAX DRAFT CONTINUED

income is recognized for income tax purposes even if the income is retained within the business forreinvestment.

Study after study by non-partisan economists have determined that the taxes most harmful toeconomic growth are corporate income tax and high personal income taxes because capital is verymobile and the most sensitive to high rates of tax. iii Business entrepreneurship is one area that ismost negatively impacted by higher marginal tax rates as the investment decisions of soleproprietors are quite sensitive to tax rates. iv

Studies have also found that high marginal income tax rates negatively impact the ability to recruit

talent.v

High rates can also influence outmigration. There is growing concern that Minnesotashigh income tax rate combined with the estate tax that kicks in at $2 million, a lower level thanmost states and the new gift tax has created a great disincentive for wealthy individuals andretirees to remain in Minnesota. (See the Minnesota Chamber of Commerce s Estate and Gift TaxPolicy.)

72% of businesses in the 2013 Business Barometer survey say the new fourth tier in personalincome taxes will significantly impact their operations with 55% stating it will reduce their ability toadd jobs in Minnesota. vi

The recent federal tax increases combined with the states new tax increase will result in large taxincreases for many businesses reducing their abilities to invest in their businesses. Many businesseswill have top marginal rates among the highest in the nation, with marginal rates exceedingnearing 50% when the federal top rate of 39.6% plus 3.2% Affordable Care Act investment tax iscombined with state top rate of 9.85%. vii These businesses are also facing other fixed costincreases such as the increase in minimum fee, the new business to business sales taxes, healthcare cost increases, energy costs due to new mandates, etc.

Minnesotas tax system should be structured to best position Minnesota for a strong, vibr ant, changingand growing economy. Income tax changes should be reviewed to ensure that they advance important

tax principles of competitiveness, stability, simplicity and minimization of economic distortions.

The Minnesota Chamber advocates for income tax changes that will improve economic growth andcompetitiveness as follows:

Rates. The Minnesota Chamber supports lowering the top income tax rates to be more competitivenot only regionally but nationally in order to encourage greater economic growth and job creation


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and retention. Minnesota should reduce the personal income tax rate so Minnesotas top rates areout of the top ten nationally and when resources allow enact across the board rate reductions.Reducing reliance on the top tier would improve stability of state revenue system as the new fourthtier is a more volatile source of revenue since a greater portion is from capital gains and businessincome.

Pass -through income . Enactment of a 20-percent exemption for active business income forpass -through entities S-corporations, partnerships and limited liability companies. Reduce taxburdens for all pass-through entities by enacting a meaningful tax reduction for business income.Doing so would drop the marginal tax rate on business earnings, allowing more capital to be

reinvested in the business and its employees

Capital gains. Reduce taxes on individual capital gains by either taxing them at a rate lower thanordinary income or enacting capital gains exclusion. (The average and median top capital gains taxrate in the 40 states plus the District of Columbia that tax capital gains is about 6 %. Ten states donot tax capital gains.)

Federal conformity. Conform to federal tax law definition changes in order to lessenadministrative burden and complexity.

BUSINESS IMPACTReducing personal income tax rates will make the state more attractive for businesses to operate andmake it easier to recruit high- skilled workers. The vast majority of Minnesotas businesses, including itssmallest and newest (sole proprietors, limited liability companies, partnerships and S-corporations),flow their business income through a personal rather than a corporate income tax return. Policymakers should not forget that individual income tax rates are just as important to business activity as isthe corporate rate. Minnesotas new income top rate of 9.85% puts Minnesota second highest in thenation for some incomes and fourth highest state rate in the nation overall. Minnesota s rate is muchhigher than all neighboring states and many of those states have actually reduced their tax rates.These high tax burdens place Minnesota businesses at a competitive disadvantage. High marginal rates

have been shown to be extremely detrimental to entrepreneurial investments and net-in migration ofindividuals which will make it much harder to recruit talent to Minnesota. Return on investment isaffected by labor costs so personal income tax rates can influence location of plants and facilities asemployers have to adjust compensation to compensate for cost of higher taxes especially for higherskilled occupations.

Enacting a 20 percent exemption for subtraction for pass-through income would target income taxreductions to taxpayers with business income and effectively drop Minnesotas highest marginal rate


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on business income from among the highest rates in the nation. 9.85 percent to 7.88 percent (which isstill higher than it was before the 2013 tax increase). This would give Minnesota businesses a morecompetitive ranking. It also would move Minnesotas personal income tax more toward a tax on wagesrather than both a tax on wages and business income. This was a recommendation of the Governors21st Century Tax Reform Commission 2009 report as research indicates that higher marginal taxes onpass-through businesses increase of cost of capital and discourage investment and hiring byentrepreneurs. A key component of good tax policy is to make sure there is parity between businesstypes in order to minimize economic inefficiencies and to minimize the picking of business winners andlosers in the tax code.

One key component for economic growth is capital formation and studies have found investmentdecisions are sensitive to high tax rates. Reducing individual capital gains taxes will help increase theformation of venture capital so small firms are better able to acquire the financing needed to grow.Capital generally flows to places where it can earn the greatest return. Reducing the taxation of capitalgains will increase that return, resulting in more capital flowing into Minnesota.

i

Taxation and Small Business in Minnesota, January 2011, Minnesota House Researchii Federation of Tax Administratorsiii Tax Foundation, What is Evidence on Taxes and Growth, Dec. 2012.iv So What Actually Happens When You Tax the Wealthy? A Review of Literature, October 2010, Minnesota Center for FiscalExcellencev Minnesota Center for Fiscal Excellencevi 2013 Minnesota Business Barometer Survey, Oct. 2, 2013 press release Minnesota Chamber and Himmler Rapp Companyvii Tax Foundation Fiscal Fact No. 394

Documents

Chamber of Commerce Tax Policy Proposal Draft