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Minnesota Estate Tax Study (2014)

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Minnesota Estate Tax Study (2014) Minnesota Estate Tax Study Tax Research Division March 5, 2014 March 5, 2014 The Honorable Rod Skoe The Honorable Ann Lenczewski Chair Chair Senate Taxes Committee House Taxes Committee 235 Capitol 509 State Office Building St. Paul, MN 55155 St. Paul, MN 55155 The Honorable Julianne E. Ortman The Honorable Greg Davids Ranking Minority Member Ranking Minority Member Senate Taxes Committee House Taxes Committee 119 State Office Building 283 State Office Building St. Paul, MN 55155 St. Paul, MN 55155 The Honorable Ann Rest The Honorable Jim Davnie Chair Chair Senate Tax Reform Division House Property and Local Tax Division 235 Capitol 445 State Office Building St. Paul, MN 55155 St. Paul, MN 55155 To the Members of the Legislature of the State of Minnesota: It is my pleasure to submit to you the Estate Tax Study, as required by 2011 Laws of Minnesota, 1st Special Session, Chapter 7, Article 1, Section 10. The study identifies issues for policy makers to consider in deciding whether and how to revise, reform, replace, or repeal Minnesota’s estate and gift taxes. It explains the challenge states encountered with repeal of the federal pick‐up tax (phased out starting in 2002 and repealed in 2005) and explains how Minnesota and other states have responded to those challenges. The study presents information about who pays Minnesota’s estate tax, and it discusses potential changes. Estimates of the revenue impact of those changes are included where they are available. The Department of Revenue appreciates the input received from the probate section of the Minnesota State Bar Association and from Minnesota Association of Public Accountants. Minnesota Statutes, Section 3.197, specifies that a study to the Legislature must include the cost of its preparation. The approximate cost of preparing this study was $20,000. The study is available on the Department of Revenue web site at www.revenue.state.mn.us/research_stats/research_reports/2014/estate_tax_report_3_5_14.pdf. Sincerely, Myron Frans Commissioner 600 North Robert Street Minnesota Relay 711 (TTY) St. Paul, MN 55146 An equal opportunity employer Estate Tax Study Table of Contents Table of Contents Executive Summary ....................................................................................................................................... 1 Background to Proposals to Repeal, Revise, or Reform the Structure of the Estate Tax ................... 1 Options for Structural Change ............................................................................................................ 2 Other Possibilities ............................................................................................................................... 2 Who Pays the Minnesota Estate Tax? ................................................................................................. 3 The Estate Tax and Tax Policy Principles ............................................................................................. 3 Introduction .................................................................................................................................................. 5 Chapter 1: History of Minnesota’s Estate, Inheritance, and Gift Taxes ....................................................... 7 Statutory Changes ............................................................................................................................... 7 Tax Collections History ...................................................................................................................... 10 Chapter 2: Minnesota’s Estate and Gift Taxes in 2014 .............................................................................. 13 The Structure of the Minnesota Estate Tax ...................................................................................... 13 Tax Base ................................................................................................................................. 13 Calculating the Tax ................................................................................................................. 14 Federal Deductibility, Tax Burdens, and Effective Tax Rates ................................................. 19 Adjustment for Out‐of‐State Property on Resident and Nonresident Returns ..................... 22 Tax Credits ............................................................................................................................. 22 Filing Requirements, Deadlines, and Penalties ...................................................................... 22 Five‐Year Deferral and Installment Payments for Closely‐Held Business Assets .................. 23 Tax Changes Enacted in 2011 and 2013 ............................................................................................ 23 Deduction for Farm and Small Business Property ................................................................. 23 Inclusion of Nonresident Property Held in a Pass‐Through Entity ........................................ 24 Inclusion of Gifts Made Within 3 Years of Death................................................................... 24 Gift Tax ................................................................................................................................... 25 Summary: A Complex Tax ................................................................................................................. 26 Chapter 3: Who Pays the Estate Tax? ........................................................................................................ 27 Only a Small Proportion of Decedents Pays Minnesota Estate Tax .................................................. 27 Many File Estate Tax Returns but Owe No Tax ................................................................................. 27 Nonresidents Pay Only a Small Share of the Tax .............................................................................. 28 The Tax is Concentrated among a Small Number of Residents with Large Estates .......................... 28 The Estate Tax is Minnesota’s Most Progressive Tax ........................................................................ 30 Most Minnesota Residents Who Pay Minnesota Estate Tax Pay No Federal Estate Tax .................. 31 Minnesota’s Deduction for Farm and Small Business Property Reduces Tax Liability ..................... 32 i Estate Tax Study Table of Contents Chapter 4: Evaluating the Estate and Gift Taxes ........................................................................................ 35 The Estate Tax and Tax System Goals ............................................................................................... 35 Understandable ..................................................................................................................... 35 Fair ......................................................................................................................................... 35 Competitive ........................................................................................................................... 36 Reliable .................................................................................................................................. 36 Efficient .................................................................................................................................. 36 Issues Raised by Proponents ............................................................................................................. 36 The Estate Tax as a Backstop to the Income Tax ................................................................... 36 The Estate Tax and the Concentration of Wealth ................................................................. 37 The Estate Tax as a Progressive Tax ....................................................................................... 39 Issues Raised by Opponents .............................................................................................................. 39 The Estate Tax Creates a Hardship for Small and Family‐Owned Businesses, Who Lack Liquidity ......................................................................................................... 39 The Estate Tax and Interstate Mobility .................................................................................. 40 Statistical Significance vs. Economic Significance.......................................................... 42 Conway and Rork (2006) ............................................................................................... 42 Conway and Rork (2012) ............................................................................................... 43 Bakija and Slemrod (2004) ............................................................................................. 43 Summary of Evidence on Tax‐Induced Mobility ............................................................ 45 Chapter 5: Policy Alternatives: Revise, Reform, Replace, or Repeal ......................................................... 47 Experience of Other States ............................................................................................................... 47 Reform States ........................................................................................................................ 48 The Alternatives ..................................................................................................................... 48 Option 1: Repeal the Estate and Gift Taxes ....................................................................................
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