By ensuring that extremely high-income households pay state and local taxes at a rate approaching that of other Minnesota households, the estate tax does more, dollar for dollar, than any other tax to reduce tax regressivity in Minnesota. Conservatives want to dramatically reduce Minnesota’s estate tax by conforming to federal law, which would have the effect of not only reducing state estate tax revenue by over half, but also reducing the fairness of Minnesota’s tax system.
As noted in the previous article, Minnesota’s estate tax applies to taxable estates in excess of $1.8 million for deaths occurring in 2017,* excluding small business and agricultural homesteads, which have an exemption of $5 million. Conforming to federal law would triple the current exemption to $5.49 million.† Based on Minnesota Management & Budget projections, the effects of federal estate tax conformity would be to reduce state revenue by $70.6 million in FY 2018, $91.1 million in FY 2019, $94.4 million in FY 2020, and $100.6 million in FY 2021. The chart below shows projected estate tax revenue before and after federal conformity.
Due to estate tax reductions enacted in 2014, state estate tax revenue is already much lower today than it was in FY 2014. Relative to current law, projected estate tax revenue will be further reduced by 45 percent in FY 2018 and by 58 percent in each subsequent year as a result of federal conformity. This windfall of tax relief will flow almost exclusively to the top one percent, who—as noted in the preceding article—already have a state and local effective tax rate (i.e., state and local taxes as a percent of income) significantly below the statewide average.
The regressivity of a tax system can be measured by the Suits index. A Suits index with a value below zero denotes a regressive system; the further below zero, the more regressive the system. Based on projections from the 2017 Minnesota Tax Incidence Study (MTIS), the 2019 Suits index for Minnesota’s state and local tax system will be -0.024, which denotes a modest degree of tax regressivity. North Star estimates that conforming Minnesota’s estate tax to federal law will further reduce the 2019 Suits index to -0.027—a small but noticeable increase in regressivity. North Star further estimates that 2019 state and local taxes per dollar of income for the top one percent will drop from four percent below the statewide average to six percent below as a result of federal estate tax conformity. As the preferential tax treatment for the top one percent increases, the extent to which state and local taxes are borne by lower income households increases.
What will Minnesota have to show for the increased tax regressivity resulting from federal estate tax conformity? Conservatives claim several advantages, none of which are particularly convincing. For example, conservatives argue that federal estate tax conformity will enable farms and small businesses to be successfully transferred from one generation to the next; however, these estates already enjoy an exemption of $5 million. The additional exemption resulting from federal conformity is small. Furthermore, a 2011 United for a Fair Economy issue brief notes that:
The Congressional Budget Office estimates that with a $2 million exemption, only 123 farms per year in the U.S. would owe any estate tax, and the number of small businesses is similarly small. In 2001, the New York Times reported that American Farm Bureau Federation (who was in favor of repealing the estate tax) could not cite a single case of a family farm lost due to the estate tax.
Since 2001 (the date of the New York Times article cited in this brief), state and federal estate taxes have diminished. Thus, if no cases of “a family farm lost due to the estate tax” could be identified in 2001, it is unlikely that any could be identified today.
Conservatives also argued that reductions to the estate tax will prevent tax flight from Minnesota. While there is anecdotal evidence of high-income households leaving Minnesota due to the estate tax, reports purporting to show large scale tax flight are methodologically flawed. According to a 2014 estate report prepared by non-partisan staff at the Minnesota Department of Revenue (MDOR):
Most rigorous and peer-reviewed studies of tax migration fail to find any statistically significant effects of tax variables. This is true when studies are limited to seniors, and it is true for both estate taxes and income taxes.
Without the estate tax, some forms of income would go completely untaxed. For example, in the absence of the estate tax, the growth in stock value above the price at which it was purchased could be passed on to the next generation without being subject to any taxation. The 2014 MDOR estate tax report notes that these unrealized capital gains comprise over half of total estate value among high value estates—precisely the estates that derive the greatest benefit from federal conformity.
Meanwhile, the detriments resulting from federal estate tax conformity are real. Estate tax reductions are premised on a surplus that is largely illusory in that it ignores the impact of inflation in most areas of the state budget. Furthermore, there are substantial downside risks to this rosy forecast resulting from the growing threat of a recession and state budget hits due to potential changes in federal policy. Estate tax reductions of the magnitude described above are unwarranted given the looming uncertainties on Minnesota’s fiscal horizon.
State conformity to the federal estate tax is regressive, fiscally risky, and would likely not produce the benefits promised by conservatives. Use of state resources to further benefit a class of über-rich taxpayers that already enjoy below average state and local effective tax rates is unwarranted.
*Under current law, Minnesota’s general estate tax exemption is $1.8 million for deaths occurring in 2017 and $2 million for deaths occurring in 2018 and thereafter. These changes are part of increases in the estate tax exemption authorized in a 2014 tax act. As noted in the preceding article, “taxable estate” excludes amounts given to charity or to a spouse, as well as debts, funeral expenses, and costs related to estate administration.
†The federal exemption is $5.49 for deaths occurring in 2017 and is indexed to inflation for subsequent years.
