Minnesota's projected budget deficit shrank by a fifth to $5 billion on Monday, prompting Gov. Mark Dayton to withdraw his proposal for a 3 percent temporary surtax on top earners that would have given the state the nation's highest income tax rate.
The forecast from Minnesota Management and Budget officials showed the shortfall for the coming two-year budget was down from an earlier projection of $6.2 billion. State economist Tom Stinson attributed the improvement to federal action that helped the economy, including a payroll tax cut and delay in a capital gains tax hike.
Dayton immediately dropped his call for a 3-year surtax on incomes starting at $500,000, which would have raised $918 million in the upcoming budget period. The Democratic governor said he was fulfilling a promise to avoid imposing the nation's highest tax rate. Still in play, though, is his call for a new permanent top income tax bracket of 10.95 percent, just a hair under Hawaii's top-in-the-nation rate of 11 percent.
The governor called the forecast "both good news and bad news" for the state.
"The good news is the economy is improving," Dayton said. "The bad news is there's still over 200,000 Minnesotans unemployed."
As both Dayton and lawmakers stressed, the state still faces a mammoth budget problem. By the latest numbers, the deficit is nearly 13 percent of the state's general fund. The governor and the GOP-controlled Legislature are split on how to handle the shortfall, with Dayton pushing for new high-end income and property taxes and Republican leaders vowing to erase the deficit through spending cuts.
In light of the new forecast, Dayton said he would reduce proposed cuts to nursing homes and other health and welfare programs.
Republicans are expected to outline their budget plan by the end of March. They adamantly oppose Dayton's push to raise taxes and vowed to set a budget that spends no more than current projected tax collections.
"We're going to live within the 33-and-a-half billion that we now have to spend," said House Speaker Kurt Zellers, R-Maple Grove.
Zellers and other GOP leaders said they are glad the temporary surtax is out, but don't like Dayton's proposal to permanently raise income taxes.
"While it's better, it's going in the right direction, it's still a concern," said Senate Majority Leader Amy Koch, R-Buffalo.
Democratic legislative leaders said they hoped Republicans would quickly release their budget proposal and give the public time to absorb the potential impact of $5 billion in spending cuts. They say the GOP's "no new taxes" approach could lead to property tax increases because aid to local governments would likely be cut, a point Dayton also made.
The two sides even disagree on the accuracy of the deficit number itself, with Republicans saying it's overstated because it includes automatic increases in programs such as public health care, which the Legislature could tinker with. Democrats say the gap is bigger than it appears because about $1 billion in inflation isn't counted in the official number.
With federal stimulus dollars drying up, Minnesota government has already tapped its savings, delayed almost $2 billion worth of payments to schools and made other accounting shifts to stay ahead of the financial hole. Policymakers have few moves left, other than raising taxes or cutting spending.
The Legislature faces a May 23 constitutional deadline for adjournment. The current state budget runs through June 30.
Asked to compare the economic effect of $3 billion to $5 billion in tax increases vs. $5 billion worth of spending reductions, state economist Stinson said both would hurt, but the spending cuts would do slightly more harm because they would depress consumer spending more than tax increases on the top earners.
"They'll probably both have a deleterious effect on the state's economy," he said.
Twice-yearly forecasts are used to set the budget, giving the most accurate projection of tax collections and spending patterns.
Dayton's said the updated forecast allowed him to significantly pare back about $200 million in proposed health and welfare spending cuts, including reductions in cuts for nursing homes, the MinnesotaCare health care program for the working poor and grants. He said he would also restore about $14 million in spending on transit to avoid fare increases, pump up a $15 million tax credit for research and development and put $5 million in two economic development funds.
The governor also asked Republican legislative leaders to quickly reverse a 2010 law delaying business tax refunds, saying the state no longer needs the move to stay solvent. State budget director Jim Schowalter said Minnesota is no longer in danger of running out of cash before the current fiscal year ends in June.
Associated Press writer Patrick Condon contributed to this report.