State Business Property Tax: Flat Levy, Declining Rates

As a whole, the property tax changes enacted in 2001—including the state business property tax—have worked out well for Minnesota businesses, as noted in part 1 of this series. In addition, the cost of eliminating or drastically reducing the state business property tax might not just spend down a surplus, but inflate a deficit, as noted in part 2. Nonetheless, the business lobby is aggressively pushing for the repeal of or reductions to this tax, based on a variety of policy arguments. To what extent do these arguments hold water?

The most commonly heard criticism of the state business property tax is that it is on “autopilot”—a reference to the fact that each year the statewide amount of this tax increases at the rate of inflation. The solution to the “autopilot” problem, according to opponents of the tax, is to freeze the levy or eliminate it entirely. Lost on adherents of this position is the fact that a levy that is permanently frozen is also on “autopilot,” since the amount of the levy each year would be predetermined by state law and would require no legislative action, just as with the current annual inflation adjustment.

Moreover, is it reasonable to freeze any state tax permanently, given that state costs routinely increase at the rate of inflation? Certainly no other major state tax—individual income, corporate income, or sales taxes—are frozen at a particular level year in and year out. Furthermore, the state business property tax, by virtue of the fact that it is capped at the rate of inflation, is already insulated from all of the other forces that drive the need for increased state revenue, including population growth, a rapid increase in the numbers of elderly Minnesotans, and a growing concentration of special needs students in our public schools, to name just a few. The fact that the state business levy is capped at the rate of inflation affords payers of this tax a protection that payers of other taxes do not enjoy and is a major reason why total business property taxes in Minnesota have grown less rapidly than that of homesteads and other classes of property, as illustrated in part 1.

A corollary of the autopilot argument is that the legislature should set the levy each year based on state revenue needs—just as local governments do—rather than let it increase at the rate of inflation. This would imply not only that the levy could be reduced during times of surplus, but also that it could be increased during times of deficit, when the state is in need of revenue. Today’s proponents of the “levy only as needed” argument, however, were making the opposite argument during the 2005 budget deficit, when—in response to a proposal to increase the state property tax—their battle cry was “Leave the State Property Tax Alone!”* A tax that was declining in inflation-adjusted dollars per capita during times of budget deficit should be near the end of the line for cuts during a period of surplus, to the extent that the current projected surplus—which largely ignores the impact of inflation—is even real.

The alternative to treating the state property tax like local property taxes—which the business lobby wants to do during times of surplus, but not times of deficit—would be to treat it like other state taxes, with a rate that is written into statute. If the state property tax rate that is applied to businesses had been frozen in statute at the level first imposed in 2002, the amount of that levy would be 26 percent ($217 million) greater today. Per dollar of taxable value, the state business property tax is 20 percent less today than it was in 2002.

All of the other major state tax rates (individual income, corporate income, and sales) have stayed flat or increased since 2002. Only the general state property tax rate has fallen. At 45.80 percent, the 2017 state business property tax rate is approaching a sixteen year low.

Because of the special status of the state business property tax, it tends to grow far less rapidly than other major state and local taxes. Using information from the most recent Minnesota Management & Budget (MMB) Price of Government report, the chart below compares the real (i.e., inflation-adjusted)† change in the state property tax from FY 2003 (the first full fiscal year that the state property tax was collected) to FY 2017 (based on MMB projections) relative to the change in the “big three” state taxes (individual income, corporate income, and sales), total state taxes, and local property taxes.

Over this period, the real per capita state property tax levy has declined by 13.4 percent. Among the “big three” state taxes, the individual income and corporate income taxes have both increased by double digits, while sales taxes have declined—due largely to a shift in consumer purchases from taxable goods to untaxed services—but not by as much as the state property tax declined. Total state taxes increased by 5.5 percent over this period, while local property taxes—driven upward by significant reductions in state aid—increased 27 percent.

The special status of the state business property tax—being the only major state tax capped at the rate of inflation and insulated from all other state government cost drivers—has caused it to grow less rapidly than other state and local taxes generally. Furthermore, the state property tax decline percentage indicated in the above chart reflects both the business and seasonal/recreational portions of the tax; since the state property tax was first imposed, the real per capita decline in the portion of that tax paid by businesses has been greater than the decline in the seasonal/recreational portion.‡

In truth, the business lobby does not want the state property tax to be treated like local property tax levies, which rise or fall based on revenue need, or like other major state taxes, with a rate that is set in statute. They do not even want the privileged status that they currently enjoy, in which the levy increases with inflation, but is immune to all of the other pressures affecting the need for public expenditures. Rather, they simply want to freeze the dollar amount of the levy or do away with it entirely.

In pursuit of this goal, they offer still other arguments pertaining to the need for small business tax relief and to improve Minnesota’s business tax climate. These will be examined in the final installment of this series.

 

*This was the banner of a mailing from the National Association of Industrial & Office Properties-Minnesota Chapter during the 2005 legislative session.

 The inflation adjustment here is based on the implicit price deflator for state and local government purchases, which—as noted in a 2016 North Star article—is the appropriate inflation adjustment for state and local government finances.

 During the first four years that the state property tax was imposed (tax payable years 2002 through 2005), the business and seasonal recreational portions of that tax were combined into a single levy and imposed at a single statewide rate. During this period, the taxable value of seasonal/recreational properties increased more rapidly than that of businesses, causing the portion of the tax borne by seasonal/recreational properties to increase more rapidly than the portion borne by businesses. Since tax payable year 2006, the state property tax was divided into separate business and seasonal/recreational levies, with the effect that there was no further shifting of taxes between these two groups of property.