Revised for the February 2018 Forecast Federal Update: The Tax Cuts and Jobs Act of 2017 As Enacted FY 2018 FY 2019 FY 2020 FY 2021 ($000s) Individual Income Tax ($15,940) $121,040 $209,220 $217,020 Property Tax Refund $0 $0 $84,010 $84,430 Unrelated Business Income Tax $0 $3,100 $2,200 $2,200 Corporate Franchise Tax $10,980 $292,300 $272,400 $269,400 General Fund Total ($4,960) $416,440 $567,830 $573,050 NOTE: This document is an estimate of the impact of adopting recent changes to the Internal Revenue Code with no corresponding Minnesota tax policy changes. Because changes to Minnesota tax rates and other tax policies are likely to be considered in response to the federal changes, this estimate should be considered a starting point for policy discussions rather than a policy proposal. Depending on the final combination of federal update and policies ultimately enacted by the legislature and Governor, there may be additional effects on Minnesota tax liability and Minnesota withholding amounts that are not reflected in this estimate. For example, withholding tax collections may change because of the modifications to the standard deduction and suspension of personal exemptions, but this estimate does not include any shift in withholding because the final impact depends on the timing of enactment and the full package of policy changes. Public Law 115-97, known as the Tax Cuts and Jobs Act (TCJA), was enacted on December 22, 2017. This estimate shows the fiscal impact of updating references to the Internal Revenue Code to December 22, 2017. The TCJA included provisions that change the definition of federal taxable income. These changes, such as the suspension of deductions or exclusions, increase federal taxable income. These changes are included in this estimate because federal taxable income is the starting point for Minnesota taxable income. The TCJA also included features such as federal rate changes or credits. Many of these provisions reduce federal tax liability. These features are not included in this estimate because they do not change federal taxable income. Most individual provisions are effective for tax years 2018 through 2025. Most business-related provisions are permanent beginning with tax year 2018. The attached table includes the effective date for each provision. The TCJA includes the following major provisions: Increase the standard deduction. Under the TCJA, the federal standard deduction increased to $24,000 for married joint filers, $12,000 for single and married separate filers, and $18,000 for head of household filers beginning in tax year 2018. Minnesota net income is federal taxable income incorporating any elections made by the taxpayer on the federal return. This estimate assumes that under the TCJA many taxpayers who elected the federal itemized deduction in prior years will switch and claim the increased federal standard deduction beginning in tax year 2018. Without conformity, if a taxpayer chooses the federal standard deduction, then they will also receive the current Minnesota standard deduction of $13,000 for married joint filers, $6,500 for single and married separate filers, and $9,550 for head of household filers in 20181. Conforming to the higher federal standard deduction amounts would reduce tax revenue. Adopt an alternative inflation measure. Under the TCJA the standard deduction amounts, federal tax brackets, and other thresholds will be indexed using chained CPI-U beginning in tax year 2019. Because chained CPI is generally lower than the current inflation measure, the standard deduction amounts will grow more slowly than under current law, increasing federal taxable income over time. Conforming to this provision would increase tax revenue. This estimate assumes that traditional CPI-U would continue to be used for Minnesota income tax purposes. Suspend personal and dependent exemptions. Previously a taxpayer could claim an exemption ($4,150 in 2018) for each person included on the federal return, including the taxpayer, spouse, and any dependents, reducing federal taxable income. Under the TCJA the exemptions are suspended and replaced with an increased child credit and new credits for the taxpayer, spouse and non-child dependents. Conforming to the suspension of the exemptions increases taxable income. The credits are not included in this estimate because they have no impact on federal taxable income. Suspend or limit certain itemized deductions. The TCJA suspends or modifies the following deductions:  Expand the medical expense deduction. Previously, medical expenses may be deducted to the extent that they exceed 10% of adjusted gross income. The TCJA lowers that threshold to 7.5% for tax years 2017 and 2018 only.  Limit the sum of state and local tax deductions to $10,000 ($5,000 for married separate filers).  Disallow the mortgage interest deduction for home equity debt unless it is used for home improvements, and limit the deduction for new acquisition debt to $750,000. The limit for existing mortgage debt would remain at $1,000,000.  Increase the limit on charitable contributions from 50% to 60% of FAGI.  Suspend the deduction for casualty or theft losses, with exceptions for certain disaster-related losses.  Suspend the deduction for unreimbursed employee expenses, tax preparation expenses, and other miscellaneous deductions.  Suspend the overall limit on itemized deductions. Most of these changes will increase federal taxable income, increasing Minnesota tax revenue. State income tax deductions are already added back to Minnesota taxable income, but the combined limit on state and local tax deductions will increase taxable income for some taxpayers. This estimate assumes that the state income tax deduction will continue to be added back to Minnesota taxable income, to the extent that it was deducted on the federal return, up to the maximum of $10,000 ($5,000 for married separate filers). The increased limit on charitable contributions and the suspension of the limit on itemized deductions may reduce taxable income for some taxpayers. The additional medical expense deduction will also reduce taxable income. Other deductions and exclusions.  Suspend the deduction for moving expenses (other than for military service members).  Suspend the exclusion for qualified moving expenses reimbursed by an employer. 1 Under current Minnesota law, the difference in amount between the federal and state standard deductions will increase the Minnesota tax liability of taxpayers who switch to the federal standard deduction. This increase was reflected in the February forecast. Conforming to the higher federal standard deduction amounts will reverse this increase. 2 Deduction for certain pass-through income. The TCJA allows a deduction for certain qualified business income from a partnership, S corporation, or sole proprietorship. For taxpayers with taxable income of not more than $157,500 ($315,000 for married joint filers), the deduction is equal to 20% of qualified business income. For taxpayers over that threshold, the deduction is limited in two ways: 1) it is limited to 50% of the taxpayer’s allocated share of employee wages paid by the pass-through entity plus 2.5% of the unadjusted basis of the tangible property owned by the business, and 2) the deduction is not allowed for income from a service trade or business, including health care, law, engineering, accounting, and financial services. Taxpayers with income between $157,500 and $207,500 ($315,000 to $415,000 for married joint filers) are eligible for a partial deduction. Conforming to this provision would reduce taxable income. Limit pass-through losses. Under the TCJA, a taxpayer may not claim losses from a partnership, S corporation, or sole proprietorship of more than $250,000 ($500,000 for married joint filers.) Any excess losses over that amount may be carried over to following tax years. Conforming to this provision would increase taxable income. Bonus depreciation and Section 179 expensing. Under the TCJA bonus depreciation is increased to 100% and extended through tax year 2022. It is phased out by 20% each year beginning tax year 2023. The maximum amount of Section 179 expensing is permanently increased from $500,000 to $1.0 million, and the phase–out threshold is increased from $2.0 million to $2.5 million of property placed in service. The estimates for bonus depreciation and Section 179 expensing assume an addback of 80% in the first year and five-year recovery, as under current Minnesota law. Conforming to this provision would increase taxable income within the forecast window, although over the life of the property the revenue impact is neutral. Deemed repatriation of certain deferred foreign income. The TCJA requires a U.S. shareholder in a foreign corporation to recognize its share of the corporation’s accumulated deferred foreign income since 1986, whether or not the income is actually brought back to the U.S. The provision applies to cash and non-cash holdings. The included amount is eligible for certain deductions, effectively reducing the federal tax rate. The increased tax liability may be paid over eight years beginning in tax years ending in 2018. This estimate assumes that this income would be eligible for the Minnesota dividends received deduction and that Minnesota tax liability would be spread over eight years. Conforming to this provision would increase Minnesota tax revenue. Inclusion of certain foreign intangible income. A domestic corporation is required to include in its gross income certain foreign derived intangible income (FDII) and global intangible low-taxed income (GILTI). The corporation may deduct a portion of the FDII or GILTI, with certain exceptions, lowering the effective tax rate. This estimate assumes that FDII and GILTI will be eligible for the dividends received deduction. Conforming to this provision would increase Minnesota tax revenue.  The House Income Tax Simulation Model (HITS 6.6a) was used to estimate individual provisions where possible. These simulations assume the same economic conditions used by Minnesota Management and Budget for the forecast published in February 2018. The model uses a stratified sample of 2015 individual income tax returns compiled by the Minnesota Department of Revenue. 3  For other provisions, the estimates are based on the estimates of the federal impacts prepared by the staff of the Joint Committee on Taxation, dated December 18, 2017. The estimates for each provision were apportioned to Minnesota based on information relevant to that provision. The estimates were adjusted for the difference between federal and state tax rates and federal and state fiscal years.  The estimates were done in the order shown. For example, the itemized deduction estimate assumes conformity to the increased standard deduction and suspension of personal exemptions. If Minnesota conformed to some provisions but not others, the impact of each provision could change.  For individual provisions, all of tax year 2018 is allocated to the following fiscal year. For most business- related provisions, one month of impact is allocated to fiscal year 2018, assuming that businesses would make changes to one estimated payment in the current fiscal year after enactment.  The property tax refund estimates are based on the February 2018 forecast.  The federal provisions increase the household income amount used to calculate PTR, which would reduce state-paid refunds to more than 500,000 homeowners and renters beginning in FY 2020. Minnesota Department of Revenue Tax Research Division March 15, 2018 Federal Update Tax Cuts and Jobs Act_8 / dkd nrg cej tj mjr ct cw 4 Revised for February 2018 Forecast FY 2018 FY 2019 FY 2020 FY 2021 Standard Deduction and Exemptions $0 ($1,458,300) ($988,400) ($1,023,000) Increase standard deduction to $24,000 married joint, 12,000 single; 18,000 head of household; indexed by Chained CPI-U beginning TY 2019 (TY18-25) 2 Suspend personal and dependent exemptions (TY18-25) $0 $1,694,500 $1,216,800 $1,244,900 Subtotal: Standard Deduction and Exemptions $0 $236,200 $228,400 $221,900 Education-Related Provisions Allow exclusion of discharged student loan debt in case of death or disability (TY18-25) $0 (Negl.) (Negl.) (Negl.) Allow Section 529 plan withdrawals of up to $10,000 for K-12 tuition (TY18-25) $0 ($800) ($800) ($900) Subtotal: Education-Related Provisions $0 ($800) ($800) ($900) Federal Deductions Suspend or modify certain itemized deductions (TY18-25) $0 $85,400 $70,800 $74,400 Medical expense deduction: Reduce FAGI floor from 10% to 7.5% (TY17 & 18) $0 ($18,300) $0 $0 Suspend deduction for moving expenses (other than service members) (TY18-25) $0 $5,000 $3,900 $4,000 Repeal deduction for alimony payments and corresponding inclusion of received alimony (for agreements beginning 2019) $0 $500 $1,100 $2,300 Modify limit on wagering losses (TY18-25) $0 $150 $90 $90 Charitable deduction not allowed for amounts paid for college athletic event seating rights (beginning TY18) $0 $2,000 $1,200 $1,200 Subtotal: Federal Deductions $0 $74,750 $77,090 $81,990 Federal Exclusions Suspend exclusion for qualified moving expense reimbursement (TY18-25) $0 $5,600 $3,900 $3,900 Suspend exclusion for certain employer-provided bicycle commuter fringe benefits (TY18-25) $0 $40 $30 $30 Subtotal: Federal Exclusions $0 $5,640 $3,930 $3,930 Federal Update: The Tax Cuts and Jobs Act of 2017 As Enacted ($000s) 5 2 Under current Minnesota law, the difference between the federal and state standard deductions will increase Minnesota tax liability for some taxpayers. This is expected to increase income tax revenue by $59 million in FY 2019, $60 million in FY 2020, and $62 million in FY 2021, and was reflected in the February 2018 forecast. Conforming to the higher federal standard deduction amounts will reverse this impact The reverse of the forecast adjustment is included in the estimate for conforming to the federal standard deduction. Revised for February 2018 Forecast FY 2018 FY 2019 FY 2020 FY 2021 Retirement, Savings, and Pensions Allow increased contributions to ABLE accounts (TY18-25) $0 (Negl.) (Negl.) (Negl.) Extend rollover period for certain retirement plan loan offsets (beginning TY18) $0 (Negl.) (Negl.) (Negl.) Repeal special rule permitting recharacterization of IRA contributions (beginning TY18) $0 $450 $300 $300 Subtotal: Retirement, Savings, and Pensions $0 $450 $300 $300 Bonus Depreciation and Section 179 Expensing Bonus depreciation of 100%, with 80% addback and 5-year recovery; phased out beginning in TY 2023 (TY18-26) Individual Income Tax ($600) $1,000 $8,700 $10,700 Corporate Franchise Tax ($1,300) $2,100 $18,300 $22,600 ($1,900) $3,100 $27,000 $33,300 Increased Section 179 expensing, with 80% addback and 5-year recovery (beginning TY18) Individual Income Tax ($40) $600 $2,600 $2,800 Corporate Franchise Tax ($20) $200 $1,000 $1,100 ($60) $800 $3,600 $3,900 Bonus Depreciation and Section 179 Expensing Individual Income Tax ($640) $1,600 $11,300 $13,500 Corporate Franchise Tax ($1,320) $2,300 $19,300 $23,700 Subtotal ($1,960) $3,900 $30,600 $37,200 Other Business and Investment Provisions Allow 20% deduction of certain non-service pass- through income (TY18-25) Individual Income Tax ($18,100) ($353,000) ($289,700) ($302,300) Disallow pass-through losses over $500,000 married joint, $250,000 for other filers (TY18-25) Individual Income Tax $0 $58,000 $52,200 $46,300 Tax gain on the sale of partnership on a look-through basis (beginning TY18) Individual Income Tax $0 $1,100 $1,800 $1,900 Expand the definition of built-in loss for purposes of partnership loss transfers (beginning TY18) Individual Income Tax $0 $400 $300 $300 Charitable contributions and foreign taxes taken into account in determining limit on partner's share of loss (beginning TY18) Individual Income Tax $0 $700 $700 $800 6 Revised for February 2018 Forecast FY 2018 FY 2019 FY 2020 FY 2021 Other Business and Investment Provisions (Cont.) Repeal rollover of publicly traded securities gain into specialized small business investment companies (beginning TY18) Individual Income Tax $0 $300 $300 $300 Corporate Franchise Tax $0 $700 $600 $600 Small business accounting method reform and simplification (beginning TY18) Individual Income Tax ($4,300) ($62,700) ($22,000) ($12,200) Corporate Franchise Tax ($500) ($6,900) ($2,400) ($1,300) Limit net interest deduction to 30% of income, with carryforward (beginning TY18) Individual Income Tax $4,400 $97,700 $90,500 $92,500 Corporate Franchise Tax $700 $16,600 $15,400 $15,700 Modification of net operating loss deduction (beginning TY18) Individual Income Tax $2,100 $38,800 $31,900 $43,300 Repeal deferred gain on like-kind exchanges, except for real property (beginning TY18) Individual Income Tax $100 $2,300 $2,500 $3,300 Corporate Franchise Tax $100 $2,900 $3,100 $4,200 Reduce recovery period for certain real property (beginning TY18) Individual Income Tax $0 ($200) ($400) ($600) Corporate Franchise Tax $0 ($500) ($800) ($1,100) Repeal deduction for local lobbying expenses (DOE) 3 Individual Income Tax $0 $200 $100 $100 Corporate Franchise Tax $0 $400 $300 $300 Limit deduction for employer-provided meals and entertainment expenses (beginning TY18) Individual Income Tax $200 $3,600 $2,600 $2,700 Corporate Franchise Tax $600 $9,800 $7,000 $7,300 Limit deduction for certain employer-provided transportation benefits (beginning TY18) Individual Income Tax $200 $2,700 $2,000 $2,000 Corporate Franchise Tax $400 $7,300 $5,400 $5,600 Prohibit deduction for achievement awards of cash, gift cards and other nontangible personal property (beginning TY18) Individual Income Tax Negl. Negl. Negl. Negl. Corporate Franchise Tax Negl. Negl. Negl. Negl. Limit deduction for FDIC Premiums (beginning TY18) Individual Income Tax $100 $1,900 $1,800 $1,800 Corporate Franchise Tax $200 $5,000 $4,900 $4,900 7 3 Date of enactment Revised for February 2018 Forecast FY 2018 FY 2019 FY 2020 FY 2021 Other Business and Investment Provisions (Cont.) Deny deduction for sexual harassment settlements paid subject to a nondisclosure agreement (DOE) Individual Income Tax Negl. Negl. Negl. Negl. Corporate Franchise Tax Negl. Negl. Negl. Negl. Revise treatment of contributions to capital (DOE) Individual Income Tax $0 $300 $400 $700 Corporate Franchise Tax $0 $800 $1,100 $2,000 Modify historic rehabilitation credit to provide 20% credit spread over 5 years (beginning TY18) Corporate Franchise Tax 4 $0 $14,900 $25,000 $12,700 Modify treatment of interest for producers of beer, wine, and distilled spirits (TY18 & 19) Individual Income Tax ($100) ($1,500) ($900) $0 Corporate Franchise Tax ($100) ($1,900) ($1,100) $0 Modify limit on excessive compensation (beginning TY18) Individual Income Tax $0 $500 $600 $600 Corporate Franchise Tax $0 $2,800 $3,600 $3,600 All Other Business and Investment Provisions Individual Income Tax ($15,400) ($208,900) ($125,300) ($118,500) Corporate Franchise Tax $1,400 $51,900 $62,100 $54,500 Subtotal ($14,000) ($157,000) ($63,200) ($64,000) Unrelated Business Income Unrelated business income of charitable organizations separately computed for each trade or business activity Unrelated Business Income Tax $0 $3,100 $2,200 $2,200 Subtotal: Unrelated Business Income $0 $3,100 $2,200 $2,200 Bond Interest Repeal exclusion of interest on advance refunding bonds (beginning TY18) Individual Income Tax $100 $3,500 $3,900 $4,800 Corporate Franchise Tax $100 $1,800 $2,100 $2,500 Subtotal: Bond Interest $200 $5,300 $6,000 $7,300 8 4 The historic rehabilitation credit may also be claimed against the individual income tax or insurance premiums tax. Since the distribution of future credits is unknown, the entire estimate is included in the corporate franchise tax total. Revised for February 2018 Forecast FY 2018 FY 2019 FY 2020 FY 2021 International Business Income Deemed repatriation of certain deferred foreign income (beginning TY18) 5 Corporate Franchise Tax $10,800 $162,000 $103,500 $107,100 Inclusion of global intangible low-taxed income (GILTI), with deduction (beginning TY18) Individual Income Tax $0 $6,600 $6,600 $6,100 Corporate Franchise Tax $0 $62,000 $62,400 $57,600 Inclusion of foreign-derived intangible income (FDII) derived from domestic trade or business, with deduction (beginning TY18) Individual Income Tax $0 $2,000 $3,800 $3,900 Corporate Franchise Tax $0 $12,300 $23,000 $24,000 Other modifications to Subpart F provisions Corporate Franchise Tax Negl. Negl. Negl. Negl. International Business Income Individual Income Tax $0 $8,600 $10,400 $10,000 Corporate Franchise Tax $10,800 $236,300 $188,900 $188,700 Subtotal $10,800 $244,900 $199,300 $198,700 Property Tax Refund Suspend exemptions for dependents, senior/disabled Homestead Credit Refund $0 $0 $50,700 $50,900 Renter Property Tax Refund $0 $0 $32,800 $33,000 Modifications to federal adjusted gross income Homestead Credit Refund $0 $0 $350 $360 Renter Property Tax Refund $0 $0 $160 $170 Subtotal: Property Tax Refund $0 $0 $84,010 $84,430 All Provisions Individual Income Tax ($15,940) $121,040 $209,220 $217,020 Property Tax Refund $0 $0 $84,010 $84,430 Unrelated Business Income Tax $0 $3,100 $2,200 $2,200 Corporate Franchise Tax $10,980 $292,300 $272,400 $269,400 General Fund Total ($4,960) $416,440 $567,830 $573,050 5 Repatriated earnings are expected to be used partly for dividends and stock repurchases. That income is taxable under current Minnesota law. In addition, to the extent that deferred foreign income is actually returned to the U.S., it would be taxable under current Minnesota law. Because those revenue gains will occur regardless of legislative action, they were reflected in the February forecast. We estimate this adjustment to be about $10 million in FY 2018, $150 million in FY 2019, $96 million in FY 2020, and $100 million in 2021. These revenues are in addition to the revenue gain from conformity shown in this estimate, above. 9