here for PDF format
here for participants' responses to this interview.
former Commissioner, Minnesota Department Revenue
8301 Creekside Circle #920, Bloomington, MN 55437
September 17, 2010
Present: Verne Johnson (Chair); David Broden, Marianne Curry, Paul
Gilje, Dan Loritz, Tim McDonald, Wayne Popham, Clarence Shallbetter, Bob
James' comments: In this discussion former State Revenue Commissioner John
James describes the importance of the right conditions for both state
revenue and economic growth and proposes steps to set in place the best
base for future fiscal stability.
The talk focuses on the
two budgeting essentials: revenue and spending. James contends that to
bolster revenue we must broaden the base of the sales tax in order to
prepare for the increased spending that will result from the growth in
Baby Boomer retirees. He believes that how broadly the taxable base is
defined and how resulting tax revenue is spent are both more important
than the tax rate applied.
On growth, James notes
that there is no single button a state can push to expand the economy.
Instead state leaders need to put in place the right tax structure to
encourage growth. He proposes re-balancing the responsibilities for
spending, giving the state a larger role in covering schools and health
and human services, and leaving the rest to localities.
A. Context of
the meeting-John James has visited with the Civic Caucus previously; he
continues to contribute to policy debate by crafting proposals to solve
difficult public challenges. His proposal to the group today is to improve
the way the state works on both the revenue and the expenditure sides of
B. Welcome and
introductions- John James is a lawyer and public policy consultant with
significant background in taxation and public service.
A native of Iowa, James
came to Minneapolis in 1974 from Harvard Law School and has lived and
worked in the Twin Cities ever since. As James describes it, he got the
public policy bug in the early 1980's when he became active in the
Minnesota State Bar Association Tax Section. He joined the Minnesota
Department of Revenue as Assistant Commissioner for Compliance under
Commissioner Tom Triplett in early 1986. A two-year commitment turned
into five years of service as he was named Commissioner of Revenue in late
1987 and stayed in state government until 1991.
In that year James
co-founded the Public Strategies Group with Peter Hutchinson and Babak
Armajani. He ran for Attorney General on Hutchinson's Team Minnesota
ticket for the Independence Party in 2006. Over the years he has produced
numerous governmental reform proposals, some of which have been enacted
into law. His most recent success came in 2009 with passage of a bill that
ended a gross unfairness in the Department of Revenue's approach to
officer liability cases.
James has formed a new
organization, Sensible Tax and Fiscal Systems (STAFS); its website can be
www.SensibleTax.org. The notes
of his January meeting with the caucus may be found here:
C. Comments and discussion-During James's visit today with the Civic Caucus, the
following points were raised:
James thanked the Civic
Caucus for providing the opportunity to come discuss his ideas for
resolving the state's budget imbalance. "I'm so honored to be able to come
here and say this," he opened. "I think Ted Kolderie really nailed it on
the head when he says there are four things you can
do-tax/cut/grow/redesign." James said his proposals tend to be heavier on
the tax and the redesign angles, because of his background and expertise.
James presented a
multi-point plan to the group (http://tinyurl.com/22l6s2y)
describing how to resolve the problem right now, arguing that growth is
not sufficient by itself. It is possible (necessary even) to cut state
programs, James said, but he would not suggest what in particular should
be cut. "What I want to give today is a sense of the more technical
aspects, rather than philosophical or political issues."
He broke his remarks down
to two components: The structure of how the state gets revenue, and
redesign of spending processes.
REDESIGN ON THE REVENUE SIDE
for retiring Boomers by broadening the sales tax
James said that the most
important thing the state can do to position itself for future stability
is to broaden the consumer sales tax base, that is, the types of things
that will be taxed. Policy makers may or may not cut the tax rate,
depending upon how much they want the total tax burden to change.
He pointed out that the
state has one of the narrowest sales tax bases in the country, and a high
tax rate of 6 7/8 percent statewide with some additional rate increments
levied by some local governments. The sales tax is a powerful revenue
generating mechanism. Each year the Department of Revenue does a tax
expenditure budget that shows how much expanding the base in various ways
would increase revenue. Though he does not endorse it, James noted that
state leaders could resolve the entire budget shortfall for the coming
biennium by expanding the base without lowering the rate.
"The big faucet here is
the sales tax," he said, though he admitted there are limits. "An area
with big potential for increasing the tax base may be business-to-business
services, but we don't want to go there."
The Budget Trends Study
Commission in 2009 found that as the first of Minnesota's 1.4 million Baby
Boomers reach retirement, the state's revenue will have reached an
"inflection point." This milestone requires a complete reassessment of how
Minnesota's economy is perceived. Long-ranging factors will weigh heavier
on the tax base. "Policy makers have not prepared for the overwhelming
effect this will have on the state tax base."
Retiring people buy less, pay less in sales taxes
James argued that this
inflection point matters, because as people retire they buy fewer goods
and so they pay less sales tax. They also have lower incomes, and their
incomes tend to be more exempt from income taxes. "People will not be
buying stuff. This is a major fiscal catastrophe hitting the state."
"I turned 64 a few weeks
ago," James offered as an example, "and left a law firm in 2007 to work on
my own." He listed some of his tax changes: No more 25-mile commute; no
parking or meals; no more laundering or lawn services. In 2009 his
business income dropped so he paid fewer taxes there. Some of his
investments are coming tax free, and not until he is 70 does he need to
begin drawing from IRA's. Also, there is home downsizing that many
retirees do. The effect: "I'm on a tax holiday."
So he says the state
should begin taxing clothing, consumer services, food, and health care.
"You could make it "revenue neutral" for today, bringing in no more in
total tax revenue than we do right now- but setting in place the best tax
base for the future." The state "needs to broaden the daylights out of
the sales tax. I don't care if we don't raise another dime-cut the sales
tax rate to 3 percent." The rate is less important now than the getting
the foundation structured correctly. "That way as this tsunami comes
through we're not in a permanent crisis."
REORGANIZE STATE/LOCAL RELATIONSHIP FOR WISE SPENDING AND
A government cannot push
a button and get growth, James noted. Instead state leaders need to create
the conditions in which growth is most likely to occur.
Repeal property tax aids and credits
The state distributes $2
billion per biennium in local property tax aids and credits. It is, as
Perpich used to call it, a local tax from which the state derives no
benefit. This is not good policy, James argued, because it erodes
accountability and-importantly-decreases incentive for innovation at the
local level. The state receives the tax revenue, then gives it right
back-and to make matters worse the legislature tries to micromanage the
Instead: "Blow the whole
thing up, and kill it off." This improves accountability, James said, and
aligns incentives. Cities would rely much more on the property tax, and if
citizens don't like it they can petition their city government do
something different. "It's our choice as local citizens."
This does not necessitate
a net increase in taxes, James noted-the state may use the property tax
refund system to protect individuals. He outlined the 'circuit breaker'
strategy in his visit with the caucus in January (http://tinyurl.com/2bgxcqr).
Have the state focus on education and human services;
localities the rest
"If we basically change
this framework there will be tradeoffs," James said. "But today what we've
got is dysfunctional," with $2 billion pouring out of the state in
unaccountable property aids and credits.
"What I'm trying to do is
move things around so the city doesn't come whining to the state every
year on this-it needs to be more predictable."
James contends that there
is enough room in the property tax that cities can do fine if the state
pays more for schools and human services. This shifting around would be
"eminently responsible with the goals we have in mind as a state," for the
funding and sound function of services.
People need to be aware of what they're getting from taxes, so
that they can push for improvements
"This is redesign, but it
is also cutting in a sense-and raising in a sense, because our property
taxes are not that high in this state." He argued Minneapolis is below
average in property tax rates. Some localities will choose to raise more
money, and some won't; that's not the question now, James said. This is
about getting more accountable conditions in place and incentivizing
innovation to improve services and cut costs. It is important to
incentivize productivity. The closer spending decisions are made to the
localities where the spending occurs, James said, the better.
A participant noted that
one of the points made by mayors of large cities is that they have higher
costs of services (police, fire for larger buildings, more challenging
schools). Should they be entitled to higher aid?
James replied that this
is a valid argument, but these cities also have a larger tax base. There
may be needs to assist and subsidize, but he cautioned that when aid is
sent from the state to localities there is a decrease in accountability if
the funds are unrestricted and rigidity in its use if uses are prescribed.
Another member noted that
the Minnesota Miracle was put in place to deal with these tax
inequalities. How much has the miracle unraveled?
James responded that it
hasn't unraveled, and said that this plan doesn't unravel it. Minnesota
has been extra-ordinary in the percentage of its revenue that is raised at
the state level but spent at the local level. The point: Fix the property
tax so people are aware of what they're getting, there is clarity on what
people are spending, and the state instead takes a role on equal funding
for clearly disadvantaged areas.
Change business taxes so you tax market exploitation more than
The goal of structuring
taxes to encourage business growth is to arrange it so that Minnesota is a
business center exporting to rest of the world.
James said he does not
support eliminating the corporate income tax. He would replace the state
business property tax, and eliminate sales tax on many business inputs, by
enacting a business activities tax. He cautioned tough love for business:
"I think everybody must pay their fair share, and business should be
included in that."
A participant asked James
how he proposes states could capture Internet sales tax? There is a
federal commission now on that topic, he noted, and one possibility would
be a 5 percent federal sales tax on all Internet commerce. This has
actually been an issue that predated the Internet-television and catalogs
raised it. There have been efforts among commissioners and representatives
of industries to come to agreement but they never get there.
The governor will need to lead these changes
Making this sort of
change in the character of the sales tax and the relationship between
state and local spending will take a governor willing to lead. This is
only possible if the governor is strongly involved, James believes. "It is
very difficult even for the most brilliant legislator to move these sorts
of shifts in the conditions of taxing and spending."
To close James
reemphasized that the way the property tax operates now is the antithesis
to how the government should work. "It is a black hole." Instead of
pouring money down it the state should concentrate their resources on K-12
and health care and drive reform. He argued further that the state will
need to find ways to protect schools because Health and Human Services is
raiding the entire budget (8.5 percent annual growth, MMB forecasts).
Innovation is one route
toward reform. James noted that over the years Minnesota has been very
innovative in health care. The federal government has now stepped in with
money, but it will take years to implement the plan fully. And, it does
more expanding coverage and modifying regulation than actually reforming
the system. There is opportunity now for the states. "If a governor were
not to talk about repeal but instead took as much money as they could, got
the waivers needed, and then redesigned the system, the Obama
administration would be likely to bend over backwards to work with them.
There is no state in the country with more potential to do health care
right. We've got brilliant people in this state and we've got to get at
James for a good session