Like many states, Minnesota offsets the regressivity of sales and property taxes through a progressive income tax. Minnesota’s income tax became more progressive in 2013 with the addition of a fourth income tax bracket for high-income households. Even after enactment of the new fourth tier, however, Minnesota’s individual income tax is still far from the most progressive in the nation, as a conservative think tank has claimed. In fact, Minnesota sits just outside of the top ten states in terms of individual income tax progressivity.
Minnesota’s individual income tax*—and state income taxes generally—are progressive, meaning that high-income households pay a larger percentage of their income in the form of income taxes than do low- and middle-income households. The claim that Minnesota has the most progressive income tax in the nation is based upon a flawed approach that takes into account tax levels at only two points along the income spectrum; this approach overlooks the significant variation in income taxes that exist above, below, and between these two arbitrarily chosen points.
Fortunately, there is a better way to measure the progressivity or regressivity of a tax. Since 1991, the Minnesota Department of Revenue (MDOR) has published the biennial Minnesota Tax Incidence Study (MTIS), which uses a statistical tool known as the Suits index to measure the degree of tax regressivity or progressivity of Minnesota’s total state and local tax system, as well as the regressivity or progressivity of specific taxes. The value of the Suits index is that it incorporates tax and income information from all points along the income spectrum, thereby avoiding the need to select arbitrary data points. In short, a positive Suits index denotes a progressive tax, while a negative index denotes a regressive tax; the further above or below zero, the more progressive or regressive the tax is. (The value of the Suits index can never be greater than +1.0 or less than -1.0.)
Using the same dataset used in the 2017 MTIS to determine the total state and local tax system Suits index for all fifty states (see chapter 4, section E), it is possible to calculate a Suits index for the income tax in all fifty states. This dataset—prepared by the Institute on Taxation and Economic Policy (ITEP) and published in Who Pays? A Distributional Analysis of Tax Systems in All States (5th Edition)—is based on 2012 income levels and adjusted for tax changes enacted by states through December 31, 2014. (In the following analysis, these will be referred to as 2014 Suits indexes.) Thus, the effects of Minnesota’s fourth tier income tax enacted in 2013 would be reflected in this data. The ITEP data incorporates information for all filer categories (e.g., married joint, single, etc.), although it does not include senior households.
Based on this dataset, Minnesota’s 2014 income tax Suits index was +0.201, modestly more progressive than state income taxes nationally, which have a Suits index of +0.170. Ten states have income taxes that are more progressive than Minnesota’s, based on a comparison of income tax Suits indexes. In two of these states (Tennessee and New Hampshire), the income tax applies primarily to dividend and interest earnings, as most forms of earned income (e.g., salaries and wages) are exempt. As a result, the income taxes in these two states are extremely progressive, with the tax falling almost exclusively on the high-income households that have the preponderance of interest and dividend income. At the same time, the income tax generates a relatively small share of total tax revenue in these two states because the tax is applied to an extremely narrow base.
In the other eight states that round out the top ten with the most progressive income taxes, the income tax is a significant revenue source, comprising over a quarter—and in most instances, over a third—of total state and local tax revenue based on ITEP data. The income tax Suits indexes among these eight states range from +0.366 in California to +0.219 in Rhode Island. The state income tax in each of these states was slightly to significantly more progressive than Minnesota’s income tax.
The fourth tax bracket enacted in 2013 had the effect of increasing the income tax rate on 2014 taxable income in excess of $250,000 from 7.85 percent to 9.85 percent. (Because the brackets are annually adjusted for inflation, the 9.85 percent rate applies to taxable income in excess of $261,510 in tax year 2017.) This increase in the income tax rate on high-income households was probably a major contributor to the increase in Minnesota’s income tax Suits index. Based on ITEP data reflecting 2012 tax laws, Minnesota’s income tax Suits index was +0.171, 0.030 less than in 2014. The relatively modest 0.030 increase in Minnesota’s income tax Suits index from 2012 to 2014 is comparable to the increase indicated by the other Suits indexes published in the MTIS.†
The fourth tier income tax bracket did increase the progressivity of Minnesota’s income tax, but the change was not dramatic. Minnesota’s state income tax Suits index went from being equal to the national average, based on 2012 tax law information, to only modestly above it in 2014. Among the fifty states, Minnesota went from having the 15th most progressive income tax in 2012 to the 11th most progressive income tax in 2014—a significant, but far from dramatic, leap.
While Minnesota’s income tax is more progressive than in other states, it is still far from the most progressive in the nation, even after enactment of the fourth tier income tax bracket. Nonetheless, the fourth tier bracket—along with other tax changes enacted in 2013 and 2014—did result in a significant reduction in total state and local tax regressivity. This topic will be explored in the next article in this series.
*In the remainder of this article, the term “income tax” will refer exclusively to the individual (or personal) income tax. “Income tax” as used herein does not include the corporate income tax.
†With the exception of the Suits indexes published in chapter 4, section E, dealing with interstate comparisons, the Suits indexes published in the MTIS are based on non-ITEP data compiled by the Minnesota Department of Revenue. The Suits indexes based on this non-ITEP data show approximately the same increase in the Minnesota income tax Suits index from 2012 to 2014 as the Suits indexes based on ITEP data. For example, the increase in the Minnesota income tax Suits index from 2012 (based on the 2015 MTIS) to 2014 (based on the 2017 MTIS) was 0.023 based on the population decile Suits index and 0.035 based on the full-sample Suits index.