Title

Tax Expenditure Review Report: Bringing Tax Expenditures into the Budget Process

Department/School

Finance

Date of this version

2011

Document Type

Report

Abstract

The term “tax expenditures” refers to tax provisions that are exceptions to a broadly-defined tax base – often referred to as the “reference tax base.” For example, the reference tax base for the income tax would include all forms of income. Tax expenditures include any tax provision that exempts certain forms of income, any tax deduction that favors particular forms or uses of income, and tax credits that reward particular behavior.

Each tax expenditure narrows the tax base, resulting in either less revenue or higher tax rates. Tax expenditures are not inherently unsound. In fact, they can be useful tools to support important public policy goals. But there is general agreement that tax expenditures receive less scrutiny than direct expenditures.

This report starts by making the case for bringing tax expenditures into the budget process and subjecting them to the same level of review as direct expenditures. It then recommends ways to accomplish that goal.

As discussed in Chapter 1, Minnesota’s Tax Expenditure Budget report (TEB) is among the nation’s best. The 2010 report provides useful information on each of 296 tax expenditures, but it makes no attempt to evaluate whether those tax expenditures succeed in achieving their goals. Moreover, the TEB’s cost estimates for these provisions do not appear in any of the state’s biennial budget documents.

Defining what is (and is not) a tax expenditure can be controversial. Chapter 2 reviews definitional issues. The definitions proposed in this report generally (though not always) agree with the list of tax expenditures provided in the TEB. Chapter 3 defines criteria to be used when evaluating tax expenditures, and it describes the additional information that would be required.

Given the large number of tax expenditures, an evaluation process must determine which of them should be reviewed earliest. Chapter 4 recommends a process for setting those priorities. Chapter 5 proposes an ongoing evaluation process and recommends ways to bring tax expenditures into the normal budget process.

A full list of recommendations can be found in Appendix A of this report. They include:

  • Establish an eight-year evaluation cycle during which each tax expenditure would be reviewed.
  • Create a Tax Expenditure Commission to oversee the evaluation process and make recommendations to the Legislature and governor.
  • Prioritize which tax expenditures to evaluate earliest using the six criteria described in Chapter 4.
  • Require the Tax Expenditure Commission to define a clear and measurable purpose for each tax expenditure if one is not stated in law.
  • Require evaluations to list and analyze selected alternatives to the current provision.
    • Provide adequate funding to the Department of Revenue and other state agencies, that would be responsible for completing the evaluations.
    • Set a “revenue-neutral” sunset date at completion of each evaluation. Unless the tax expenditure is extended by that sunset date, it would expire and the tax rate for the affected tax would be adjusted downward to hold revenue constant.
    • Fully integrate tax expenditures into the biennial budget process and include total expenditures for each tax in state budget summaries to show their fiscal impact on gross tax revenue

Citation/Other Information

Minnesota Department of Revenue, Marsha Blumenthal, Laura Kalambokidis, Jay Kiedrowski, John Spry, Judy Temple, and Jenny Wahl. Tax Expenditure Review Report: Bringing Tax Expenditures into the Budget Process. St Paul, MN: Minnesota Department of Revenue, 2011. Available at http://archive.leg.state.mn.us/docs/2011/mandated/110265.pdf. Reprinted in State Tax Notes 60, 3 (April 18, 2011): 171-193.