Tax Regressivity in Minnesota vs. Other States

Minnesota policymakers of all political persuasions have touted the importance of reducing tax regressivity—in other words, reducing the extent to which taxes as a percent of income are borne disproportionately by low- and middle-income households. Thus, it should come as good news that Minnesota has the seventh least regressive tax system in the nation, despite the fact that none of Minnesota’s “big three” state and local taxes—income, sales, and property—are especially progressive in comparison to other states. The key to the relatively low level of tax regressivity in the Gopher State rests not so much on the progressivity or lack of regressivity of any single tax, but on the fact that Minnesota relies more heavily on the one major tax that is progressive.

Minnesota’s rank as the state with the seventh least regressive state and local tax system is based on a comparison of Suits indexes for each state calculated using data appearing in Who Pays? A Distributional Analysis of Tax Systems in All States (5th Edition) from the Institute on Taxation and Economic Policy (ITEP), published by Growth & Justice, and reported in the most recent Minnesota Tax Incidence Study (MTIS). The Suits index is a statistical tool that measures the regressivity or progressivity of a tax or set of taxes, with an index value of +1.0 denoting a perfectly progressive tax, a value of -1.0 denoting a perfectly regressive tax, and a value of 0 denoting a tax that is proportional (i.e., neither regressive nor progressive).

Using the same ITEP data, it is possible to calculate Suits indexes not only for the entire tax system in all fifty states, but for income, sales and excise,* and property taxes individually. Based on Suits indexes calculated for the individual income tax, Minnesota has the eleventh least regressive individual income tax in the nation, as noted in the preceding article in this series. Minnesota’s individual income tax, sales tax, and property tax Suits indexes calculated using ITEP data (based on 2012 income levels adjusted for tax changes enacted through 2014) are shown in the following chart. Comparable Minnesota Suits indexes for 2014 from the most recent MTIS are included for comparison purposes.†

There are small differences between the Minnesota Suits indexes calculated using ITEP data and those derived from the MTIS,‡ but in general information from both ITEP and the MTIS confirm a well-documented pattern: individual income taxes are significantly progressive (i.e., have Suits indexes that are well above zero), while sales and property taxes are significantly regressive (i.e., Suits indexes well below zero).

Based on Suits indexes for Minnesota and all fifty states, the individual income tax in Minnesota is only modestly more progressive than the U.S. average, while the sales and property taxes in Minnesota are about as regressive as the U.S. average. Based on a comparison of Suits indexes for all fifty states calculated using ITEP data, Minnesota ranks no higher than twentieth in terms of the lack of regressivity in either sales or property taxes. In short, Minnesota does not stand out either in terms of the progressivity of its individual income tax or the regressivity of its sales or property taxes.

Given that Minnesota does not rank within the top ten states in terms of the progressivity of its individual income tax or the regressivity of its sales or property taxes, how is it possible that it ranks as the seventh least regressive state overall? The answer to this question lies in the fact that Minnesota relies much more heavily than most other states on the one tax among the “big three” that is progressive: the individual income tax. The chart below shows the distribution of state and local government tax revenues by tax type for both Minnesota and the entire U.S. based on 2014 U.S. Census Bureau data.

Census Bureau data reveal that—relative to other states—state and local government tax revenues in Minnesota are drawn much more heavily from the progressive individual income tax and much less heavily from regressive property and sales taxes. The fact that Minnesota relies much more heavily on progressive individual income taxes and much less heavily on regressive property and sales taxes has more to do with Minnesota’s ranking as the seventh least regressive state than does the progressivity or regressivity of any single Minnesota tax.

It is difficult to isolate the impact of tax law changes upon changes in the Suits index over time, since these changes do not occur in a vacuum and are accompanied by other changes in the economy, such as changes in the distribution of income between high- and low-income households. It is almost certain, however, that tax changes enacted in Minnesota in 2013 and 2014 contributed to a reduction in tax regressivity in Minnesota both in an absolute sense and relative to other states. Based on Suits indexes calculated using data from the preceding ITEP Who Pays report (4th edition), Minnesota was the sixteenth least regressive state in the nation prior to the 2013 and 2014 tax changes, compared to the seventh least regressive after those changes.

The tax changes enacted in those two years included not only a significant income tax increase focused on very high income households (described in the preceding article), but also an increase in the progressive Working Family Credit and a reduction in property taxes due to powerful enhancements to the income-sensitive homeowners’ and renters’ property tax refunds and increases in state aid to Minnesota counties, cities, towns, and school districts. These progressive changes were more than sufficient to offset regressive changes made in 2013 and 2014, such as the increase in the state’s cigarette tax and reductions to the estate tax. As a result, the share of Minnesota state and local tax revenue derived from the individual income tax increased significantly, while the share derived from regressive property taxes decreased significantly—a trend demonstrated in data from both ITEP and the U.S. Census Bureau.

While the reduction in tax regressivity in Minnesota and the improvement in Minnesota’s tax regressivity ranking is heartening from a tax fairness perspective, it is important to remember that the state and local tax system in Minnesota is still regressive. A middle-income household (defined as households in the middle quintile by income) in Minnesota pays six percent more in state and local taxes than does a household in the top one percent based on MTIS data and nearly ten percent more based on ITEP data. Furthermore, some of the tax changes enacted in 2017, such as the large reduction to the estate tax, will erode the progress made in reducing Minnesota’s tax regressivity.

Minnesota’s status as the seventh least regressive state in the nation is worth protecting. None of Minnesota’s “big three” taxes individually are particularly more progressive or less regressive than their counterparts in other states, based on a comparison of Minnesota Suits indexes to the national averages. Rather, Minnesota’s ranking among the top ten least regressive states in the nation is primarily due to the fact that it relies more heavily than most other states on progressive individual income taxes and less heavily on regressive sales and property taxes.

 

*ITEP groups sales taxes and excise taxes together into a single category. In the remainder of this article, sales and excise taxes will be referred to simply as “sales taxes.”

 The MTIS sales tax Suits index appearing in this chart is based on a weighted average of the Suits indexes for the following taxes: the general sales/use tax, the motor vehicle sales tax, the motor fuels excise tax, alcoholic beverage excise taxes, and cigarette and tobacco excise taxes. The MTIS property tax Suits index illustrated in this chart incorporates the effects of the homeowners’ and renters’ property tax refunds.

 There are several reasons for the differences between the Suits indexes calculated using ITEP data and those derived from the MTIS. First, while the MTIS Suits indexes are based on 2014 income levels and taxes, the ITEP Suits indexes are based on 2012 income levels adjusted for tax law changes through 2014. Second, the MTIS is based on data for all households, while the ITEP data exclude non-senior households. Third, the MTIS Suits indexes cited here are based on a grouping of ten separate population deciles, while the Suits indexes calculated from ITEP data are based on seven groups (the first four quintiles, the next fifteen percent, the next four percent, and the top one percent). (This analysis uses the MTIS’s population decile Suits indexes instead of the more accurate full-sample Suits indexes because the population decile indexes were calculated using the approach that most closely resembles the seven-group approach used to calculate Suits indexes based on ITEP data.)