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3 reasons why Dayton’s property tax plan is wrong-headed

When it comes to property taxes, Gov. Mark Dayton’s reform plan contains surprisingly little in the way of reform.

Gov. Mark Dayton proposes to provide the rebate annually and says it would reduce residential property taxes in the first year by 22 percent.
MinnPost photo by James Nord

When it comes to property taxes, DFL Gov. Mark Dayton’s tax reform plan contains surprisingly little in the way of reform.

Instead, Dayton layers his $500 tax rebate plan for homeowners onto an incredibly complex property tax system that already includes multiple mechanisms for tax relief. He introduces new inequities into the system. And he provides incentives for local tax increases that could rapidly erode the relief he seeks to provide.

“There are so many reasons this is bad public policy,” says Mark Haveman, executive director of the Minnesota Center for Fiscal Excellence (formerly known as the Minnesota Taxpayers Association). The business-oriented group long has provided tax analysis and comparisons.

Haveman says Dayton’s plan also would cause “collateral damage” by draining a hefty $1.4 billion from state coffers that could be used more effectively for other purposes.

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In Dayton’s defense, property tax reform is an ambitious goal that most often has eluded state lawmakers, many of whom don’t pretend to understand the system. It’s a Rube Goldberg contraption with a multitude of gears and mechanisms designed to benefit homes and other favored classes of property.

But Dayton’s revenue commissioner, Myron Frans, raised expectations as he conducted forums in more than 50 cities to solicit public input.

For homeowners, the end result is a proposal to provide a property tax rebate of up to $500 a year on state income tax returns, beginning in 2014 for property taxes paid this year.  There would be no adjustments based on your income or the size of your tax bill. If you paid at least $500 in property taxes, you receive $500 back.

Dayton proposes to provide the rebate annually and says it would reduce residential property taxes in the first year by 22 percent.

So what’s wrong with that?

No. 1: It would make an already complicated system even more complex.

The system already includes multiple mechanisms designed to reduce residential property taxes. First, owner-occupied homes valued at less than $500,000 are taxed at a lower rate than high-value homes, apartments, businesses and other types of property.

Then, homes valued at $413,800 or less receive something called the “homestead exclusion,” which effectively shifts a portion of their tax burden onto other types of property within the same taxing jurisdiction. This provision, approved in 2011, replaced a state-paid homestead credit that had been provided previously.

In addition, the state offers a Property Tax Refund (PTR) to homeowners and renters based on their income and the size of their property tax bill (or, in the case of renters, the amount of their rent that is deemed to go for property taxes). This program already provides refunds of up to $2,530 for homeowners and $1,600 for renters.

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In presentations before legislative committees, Frans said homeowners and renters would be eligible for both the PTR and the new $500 rebate – raising the possibility that some homeowners in low-tax areas could receive refunds equaling or even exceeding the taxes they paid for local services.

Property Tax Collections
Minnesota Taxpayers Association

Asked about this issue, Lisa Erickson, a spokesperson for the Revenue Department, said it is possible that up to 3 percent of homeowners could receive refunds and rebates totaling more than their actual property tax bill.

No. 2: It would create new tax inequities.

Thanks to long and effective lobbying by groups such as the Coalition of Greater Minnesota Cities, the state’s property tax system already is heavily tilted in favor of outstate homeowners at the expense of those in the metro area.

According to 2012 estimates by nonpartisan researchers for the Minnesota House, the net property tax on an average-valued home in greater Minnesota cities is $1,643, compared with $3,221 for the average-valued home in the metro area.

The net tax on an average-valued home is as low as $754 in taconite areas cities, $1,226 in southwest Minnesota cities and $1,264 in cities in the north central part of the state.

Existing state-aid mechanisms more than make up for lower incomes in greater Minnesota. According to the latest state studies, the median homestead property tax as a percentage of a taxpayer’s income is 38.7 percent higher in the metro area than it is in greater Minnesota.

The flat $500 property tax rebate proposed by Dayton would only exacerbate the tax inequities that already exist, reducing the net taxes for many outstate homeowners to less than they pay for cable TV or Internet service.

Meanwhile, the governor also would hand an unneeded tax rebate to affluent owners of expensive homes, the very folks he would like to pay higher income taxes.

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No. 3: It could spur future tax increases.

In proposing $500 a year in tax rebates to every homeowner in Minnesota, Dayton provides fresh incentives for local officials to raise property taxes, knowing that the impact of their increased levies would be blunted by the state.

Asked about this danger at legislative hearings, Commissioner Frans indicated that he is counting on local officials to exercise good fiscal judgment and taxpayers to “hold them accountable.”

Rep. Greg Davids, R-Preston, responded that it would be naïve to think local officials would not utilize the state-paid relief as a chance to “backfill” their budgets. “I was a mayor,” he said, “and we did it all the time.”

More than four decades of state history demonstrate that state buy-downs of local property taxes are temporary, at best. In 1967, the Legislature enacted Minnesota’s first sales tax and used much of the revenue to provide property tax relief for homeowners. However, this relief quickly evaporated as local property taxes shot up by 17 percent annually between 1969 and 1971.

In 1971, the Legislature enacted massive state tax increases to fund the so-called Minnesota Miracle, which boosted state aid to schools to equalize educational funding and reduce local property taxes. However, the Miracle proved to be costly and difficult to sustain – particularly when the economy tanked in the early 1980s.

In 2001, Gov. Jesse Ventura secured passage of his so-called “Big Plan” to reform taxes, which called for the state to assume responsibility for local school operating costs and reduce the local property tax burden. The first year after the law took effect, cities “jacked up their property tax levies by 16 percent,” according to Haveman.

“We’ve seen this movie before, and we know how it turns out,” Haveman says.

One promising element of Dayton’s tax plan is his proposal to revamp the state formula for Local Government Aid (LGA), which is intended to help local governments to provide a basic level of services and reduce their dependence on property taxes.

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Like much of the property tax system, the LGA formula is skewed in favor of greater Minnesota. Many outstate cities receive enough state aid to pay 50 percent, 60 percent or more of their annual operating budgets. Meanwhile, 90 of the 140 cities in the metro area receive zero LGA.

Patricia Nauman, executive director of Metro Cities, an organization of 86 cities in the seven-county area, says metro cities once received about half of all LGA, but that the split is now closer to 70-30 in favor of greater Minnesota.

Nauman says she has not seen all of the details about the formula proposed by Dayton, but that it appears to “better serve the older, fully developed suburbs that we don’t feel have received a fair shake.”

The fact is, while Minnesota’s property tax system could be simplified and made more transparent, there is no urgent need for tax relief. In the latest national comparisons, Minnesota ranked 26th in property taxes per $1,000 of personal income, compared with sixth in income taxes and 20th in sales taxes.

Moreover, the Revenue Department projects that state property taxes will rise by no more than 2.3 percent in 2013, based on the maximum levies  proposed by local governments in advance of last December’s Truth-in-Taxation hearings.

If lawmakers are interested in true reform, a better starting point might be the final report of the Property Tax Working Group, a bipartisan commission established by the 2010 Legislature and chaired by Kathleen Gaylord, a Dakota County commissioner.

The 55-page report – issued in November – recommends simplifying the property tax system, reducing the number of property tax classifications from 55 to four, utilizing the income-adjusted PTR program as the primary vehicle for homeowner tax relief, and avoiding limits, caps, freezes and exclusions.

“Whether the Legislature can tackle a major redesign, or simply engage in some meaningful pruning, changes are necessary to improve the health of the overall system,” the report says.