April 18, 2022
Minnesota legislative houses release separate omnibus tax bills with differing visions for tax relief
Update: The Minnesota Legislature adjourned on May 22, 2022, without enacting its omnibus tax bill or the IRC conformity bills discussed below. It is uncertain whether the legislature will be called into a special session to pass the omnibus tax bill and other budget-related measures.
On April 4, 2022, the Minnesota House and Senate each released omnibus tax bills outlining their respective plans for dealing with the state's projected $9.25 billion surplus. These proposals are subject to negotiation and will likely change, but the key income tax features of the two proposals are briefly discussed below.
Senate proposal — Senate File No. 3692 (2022 MN SF 3692)
The Senate's proposal focuses on three1 income tax provisions affecting corporate and individual taxpayers in Minnesota. These proposals would (1) update Minnesota's conformity date to the Internal Revenue Code (IRC) and make other conformity changes, (2) reduce the lowest marginal individual income tax rate and (3) fully exclude Social Security income from the Minnesota individual income tax.
Required conformity provisions. Minnesota's current IRC conformity date is as of December 31, 2018. For purposes of both the state's corporate and personal income tax laws, 2022 MN SF 3692 would update Minnesota's IRC conformity date to November 15, 2021, effectively conforming the Minnesota income tax laws to the following federal tax provisions for the tax years indicated:
Nonconformity adjustments. In 2019, the Minnesota Legislature enacted House File 5 (HF 5)2 creating Minn. Stat. 290.993, which provided a special limited adjustment equal to the difference between the Minnesota individual income tax3 using the IRC as of December 16, 2016, and the same tax using the IRC as of December 31, 2018. The adjustment is calculated without applying credits and must result in no additional tax or refund due. This effectively meant that HF 5 generally did not affect the tax paid for tax year 2018 even though it required conformity to certain federal changes retroactively.
2022 MN SF 3692 would create a new nonconformity adjustment for tax years 2017-21. The nonconformity adjustment would not apply, however, for the following federal changes:
The proposed nonconformity adjustment would only apply to the extent taxpayers reported a nonconformity adjustment on their return beginning in tax years 2017 to 2021. The nonconformity adjustment would equal the difference between federal AGI (for individual taxpayers) and federal taxable income (for all other taxpayers) resulting from (1) the amount calculated through the amendments to the Minnesota income tax law as of the 2021 First Special Session omnibus tax bill (2022 MN Ch. 14 (HF 9) (see Tax Alert 2021-1393) and (2) the amount calculated under the Minnesota income tax law incorporating changes to the IRC as amended through November 15, 2021 (not including impacts on state credits).
Effective for tax years 2022 and 2023, individual and corporate filer would have to make an addition adjustment if the nonconformity adjustment increases net income or a subtraction adjustment if the nonconformity adjustment decreases net income. Partners, shareholders and beneficiaries who file on a calendar-year basis and receive an addition or subtraction from a pass-through entity filing on a fiscal-year basis would be required to claim the addition or subtraction in the tax year it is received.
Reductions in individual income tax rates
2022 MN SF 3692 would reduce Minnesota's lowest-marginal individual income tax rate from 5.35% to 2.8% beginning in tax year 2022.
Exclusion for Social Security income
2022 MN SF 3692 would allow individuals to subtract 100% of their taxable Social Security benefits from their Minnesota income tax base beginning in tax year 2022.
House proposal — House File No. 3669 (2022 MN HF 3669)
2022 MN HF 3669 proposes a broader array of tax provisions than the Senate's proposal, covering changes to the state's corporate and personal income tax, as well as changes to its sales and use taxes, property taxes and other local taxes. This Alert focuses on the corporate and individual income tax proposals in 2022 MN HB 3669.
Like the Minnesota Senate's proposal, 2022 MN HF 3669 would update Minnesota's conformity to the IRC to November 15, 2021. This update would incorporate the following five federal acts into Minnesota's income tax laws:
With a few exceptions, the Minnesota House approaches IRC conformity in 2022 MN HF 3669 by allowing taxpayers to claim a Minnesota corporate or individual income tax subtraction or addition in tax year 2022 so they can "catch up" to any federal income tax provisions to which Minnesota did not conform and that affect tax years before 2022.
Social Security benefits
2022 MN HF 3669 would allow Minnesota individual income taxpayers with federal AGI of up to $75,000 (married filing jointly) or $58,600 (separate filer) to subtract 100% of taxable Social Security income included in federal AGI. The subtraction would be reduced by 10% of each $4,000 of AGI above the phaseout threshold. Alternatively, taxpayers could elect to claim an "alternate subtraction" equal to the subtraction allowed under current law.
Elective pass-through entity tax
In 2021, Minnesota enacted 2021 MN HF 9 (see Tax Alert 2021-1393), which established a new elective pass-through entity tax (PTE Tax) for tax years beginning after December 31, 2020. This was intended to enable a Minnesota taxpayer who owns a pass-through entity (i.e., a partnership, S corporation or limited liability company) (each, a PTE) to deduct its share of Minnesota individual income tax liability over the $10,000 limitation on the federal deduction for state and local taxes (SALT Cap). The PTE Tax equals the sum of the tax liability of each qualifying owner. Liability for the PTE Tax for both resident and nonresident individuals equals the owner's income allocated and assigned to Minnesota (as provided for nonresident partners and shareholders under Minnesota Statutes sections 290.17, 290.191 and 290.20), multiplied by the highest Minnesota income tax rate for individuals. 2022 MN HF 3669 would retroactively change this computation to allow a PTE to allocate 100% of a Minnesota PTE owner's income for purposes of calculating the PTE Tax.
The Minnesota Legislature is in recess through April 18, 2022, with the legislative session scheduled to conclude on May 23, 2022. The two tax proposals in the Minnesota House and Senate reflect different approaches to Minnesota tax policy and will be the subject of negotiation in the coming weeks.
EY will continue to monitor developments in this area.
1 2022 MN SF 3692 also includes proposals affecting the portability of deceased spousal unused exclusion amounts in estate tax computations. These proposals are not discussed in this Alert.
2 1st Special Session, Ch. 6, Sec. 61.
3 Including partnerships electing to file a composite return.