Minnesota Governor Mark Dayton recently released his recipe for curing the $6.2 billion budget deficit and shortfall. Three of his proposals have significant tax implications, raising $3 billion in new taxes. The first proposal creates a fourth tier income tax rate at 10.95% for married filers with taxable earnings over $150,000 and single individuals at $85,000. Secondly, the plan proposes a temporary income tax surcharge of 3% on taxable incomes more than $500,000 per year. Lastly, a new state property tax would be imposed on homes valued at $1 million or more at the rate of 1% of value. In addition, the plan includes numerous corporate franchise tax provisions and sales tax items that are designed to close supposed "loop holes." The tax specifics are set forth below.
Income Tax Provisions
1. New fourth tier of income bracket
The plan recommends creating a new fourth tier for upper incomes at a marginal income tax rate of 10.95% imposed on single filers with a taxable income of more than $85,000, single head of household filers with a taxable income of more than $130,000 per year and couples with a taxable income of more than $150,000 a year after deductions. The new bracket would be effective beginning with tax year 2011. It would generate $1 billion in fiscal year 2012 and $886,000 million in fiscal year 2013. Hawaii and Oregon currently have the highest income tax rates, both at 11%.
2. New income tax surtax
A temporary surtax on taxable income over $500,000 per year at 3% marginal rate for tax years 2011 through 2013. This would generate approximately $500,000 million in fiscal year 2012 and $435,000 million in fiscal year 2013. The new rates would make Minnesota number one in the nation at 13.95%.
3. Reduction in number of days for part-year residence test when maintaining a Minnesota abode
The plan recommends extending the income tax to persons who are present in the state for more than 60 days rather more than 183 days (the current rule) and who maintain an abode in Minnesota. An exception is made for days in Minnesota by an individual in the state for the purpose of receiving medical services. This provision will generate $30 million in the biennium beginning fiscal years 2012-2013. Part-year residents would be subject to tax on all of their income and the tax apportioned based on their Minnesota-source income to total income. The proposed change would be effective beginning with the tax year 2011.
Corporate Franchise Tax Provisions
1. Foreign royalty and FOC repealed
Repeal the current law for tax audits after 2010 of a subtraction for foreign royalties and for foreign operating corporations, generating $272 million in fiscal years 2012-2013.
2. Adopt Finnigan rule for apportionment and nexus operations
Require that all sales made into the state by a unitary business, even though the outstate company had no nexus in Minnesota, be included in the numerator. Current law provides that a non-Minnesota nexus member of a unitary group making sales to Minnesota are excluded from the numerator but are included in the denominator. This is known as the Joyce rule, after a California case. Minnesota is now incorporating the Finnigan rule, requiring non-nexus member sales to be included in the numerator of a unitary group. The provision is effective for taxable years beginning after December 31, 2010 and would generate $46 million in the fiscal years 2012-2013.
3. Insurance company exemption repealed
Repeal the current law allowing insurance companies an exemption from the corporate income tax, effective for taxable years ending after December 31, 2010. This would generate $17 million in the fiscal years 2012-2013.
4. Indexing of minimum fees
The plan indexes the minimum fee brackets and tax amounts for inflation that have not been increased since 1990. This would generate $16 million in the fiscal years 2012-2013. It would be effective for taxable years ending after January 31, 2010.
5. Foreign partnership income included in a unitary return
The plan recommends that the distributive share of income from foreign partnerships would be included in a unitary return. Currently, Minnesota has a water's edge exclusion of the net income in apportionment factors of foreign partnerships in calculating and apportionment factors for a unitary business. The change would be effective for the taxable years ending after December 31, 2011. This would generate $6 million in the fiscal years 2013-2014.
6. Exclude "REIT" dividends from the dividend received deduction
The current law of allowing a double-deduction on excluding dividends received from a real estate investment trust would be repealed. The change would increase generated revenues by $1 million in fiscal years 2013-2014. The change would be effective for the taxable years ending after December 31, 2011.
7. Clarify the research and development credit base-year documents
Currently, a taxpayer must have base-year records for 1984 through 1988 on R & D spending. The plan allows the taxpayer to use a base-year percentage of 16% when the taxpayer no longer has documentation for 1984 through 1988. The provision would raise $400,000 in the fiscal years 2013-2014. The change is effective for taxable years ending after December 31, 2010.
8. "Economic substance" test adopted
Minnesota would adopt an economic substance test overruling the case of HMN Financial, Inc., which indicated that there was no common law authority in the Commission to impose a business purpose or economic substance to a transaction, unless the statute permitted it. The provision would raise $400,000 in fiscal years 2012-2013 and $1.7 million in 2014-2015. The provision would be effective for taxable years after December 31, 2010.
9. General conformity
In general, the plan would conform for individual income tax and corporate franchise tax to the federal code for all changes made from March 2010 through December 31, 2010. This would cost approximately $46 million in the biennium 2011-2012.
The plan would not conform to the increased Section 179 expensing and bonus depreciations of federal law (80% add back would be required for these items with that amount equally subtracted over the following five years).
The plan would not conform to the federal limit on itemized deductions and the phase-out of personal exemption nor the exception under Subpart F for active financing.
Sales and Use Tax Provisions
1. Affiliated nexus or "click-through" nexus adopted
The Governor's plan would amend Minnesota statutes to impose nexus by a rebuttable presumption that a retailer maintains a business in the state if they enter into an agreement for a solicitor for the referral of Minnesota customers for a fee and the retailer's gross receipts are at least $10,000 over a 12-month period. The amount would generate $10 million over fiscal years 2012-2013. The rationale for the proposal is to promote fairness and compliance with the sales and use tax by clarifying the expectation that remote sellers of taxable products to Minnesota purchasers should collect and remit taxes as do store front retailers selling the same products. It would level the playing field between brick and mortar businesses located within Minnesota and out-of-state sellers who do not have a physical presence in Minnesota. This change would supposedly also reduce the burden on purchasers to file individual use tax returns to remit their use tax on their purchases. The provision would be effective for sales and purchases made after June 30, 2011. It would generate $12 million in fiscal year 2012-2013.
2. Exempt ring tones from tax
The plan would repeal the sales and use taxation on ring tones and make them exempt. This provision would cost a loss of $400,000 in revenue. It would be effective July 1, 2011.
3. Parallel taxation of direct satellite services to cable TV
"Direct satellite service" would include digital video recorder services and programming services requiring subscriber interaction, such as pay-per-view. Those services are already taxable when provided by a cable TV provider. This would generate $2.4 million in fiscal years 2012-2013. It would be effective July 1, 2011.
4. Online lodging reservations would be taxable
The Plan imposes the collection of sales tax on lodging services that are provided by an intermediary, such as a travel agent. The intent is to impose a tax when rooms are purchased through an intermediary at the same amount as if the consumer made the reservation directly with the hotel. The amount would generate $9 million in fiscal years 2012-2013. It would be effective the day after final enactment.
5. Stadium event admissions would be taxable
The law would be made clear that admission charges to rental of box seats and suites in stadiums, which currently are exempt rental of real property, would be taxable admissions. The amount generated for fiscal year 2012-2013 would be $7.3 million. It would be effective July 1, 2011.
6. Remote access software would be taxable
The plan would impose sales tax for the access and use of remote equipment and software. The tax to be imposed on "software as service" ("SaaS"), application service provider ("ASP"), or cloud computing. The amount of additional tax for fiscal years 2012-2013 is $3.5 million. In essence, this proposal would tax the use of pre-written computer software as a licensed to use pre-written computer software and the use of computer equipment by remote access as a taxable lease of tangible personal property. It would be effective July 1, 2011.
7. Floral sales origin sourcing
Impose origin-based taxation for florists rather than the current destination-based sourcing suggested under the SSUTA. This would generate revenue of $106,000 over the 2012-2013 biennium years. It would be effective July 1, 2011.
Estate Tax Provisions
1. Pass-through entity
Real and personal property located in Minnesota and owned by a non-resident decedent in a pass-through entity (partnership, S corporation, limited liability, or trust) would be considered part of the Minnesota taxable estate for estate tax purposes. The provision is effective in year 2011. This change would increase general fund revenue $13 million in fiscal years 2012-2013.
Real Property Provisions
1. New state residential tax imposed on homes valued at more than $1 Million
Imposes a statewide tax on residential single-unit properties valued at more than $1 million. Any amount more than $1 million would be taxed at 1%. The tax would generate $80.3 million for fiscal years 2012-2013.
1. An increase in Minnesota agents to close the tax gap
The compliance initiative will increase collections $43.5 million in fiscal year 2012-2013. This is a net gain of $32.1 million after an $11.2 million investment in increased tax audit staff.
Whether the Governor's tax plan will be adopted by the Legislature is speculative in light of the current Legislature's position of no tax increases. June 30, 2011 is the date by which we must have a balanced budget for the beginning biennium fiscal years. It should be an exciting three months of debate until the Legislature adjourns on May 23, 2011.