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Squeeze on uncollected taxes debated

ST. PAUL - Some Minnesota legislators see uncollected taxes as low-hanging budget fruit, but the state's top revenue official said much of what they are envisioning is a mirage.

Revenue Commissioner Ward Einess said he and others caution lawmakers not to set goals too high when deciding to clamp down on uncollected taxes. On Monday, his Republican boss, Gov. Tim Pawlenty, vetoed a large bill containing the provision.

"Regrettably," Einess said, "the Legislature didn't listen to us."

A key provision in the Democrat-written state government finance bill sought to spend $20 million on tax compliance efforts in hopes of netting an $80 million return. Pawlenty's proposal calls for spending $10 million to yield $40 million.

According to a 2006 legislative auditor's report, Minnesotans avoid more than $1 billion in taxes annually - an estimated $600 million through income taxes and another $450 million in sales and use taxes.

That money, referred to as the tax gap, likely is out there, most agree.

"But getting it is a whole other matter," said Lynn Reed, a lobbyist of the nonpartisan Minnesota Taxpayers Association.

Reed said that illegal cash transactions - a black hole for taxes of any form - are part of that massive figure, as well as countless other transactions auditors simply haven't been able to net. Other unreported transactions, especially Internet sales, are quantifiable and can be caught by auditors, Reed said.

The Legislature and Pawlenty opted to ensnare just a fraction of the money projected in the auditor's report. Still, Democrats in the Legislature are more optimistic than Einess.

Tax compliance legislation, Rep. Phyllis Kahn said, carries a message of responsibility for Minnesotans: Pay up.

"Shouldn't people who have a tax liability pay it?" the Minneapolis Democrat said.

Kahn, co-chairwoman of the state government conference committee, said ongoing tax compliance efforts have exceeded past Revenue Department projections. By hiring more auditors, she said, the department can be counted on to continue to gather more money.

Revenue officials projected the state would receive $5 for every $1 invested into tax compliance. Lawmakers kept the same ratio in the state government bill, but doubled the funding.

The problem, Einess said, is the Legislature's proposal doesn't take into account a declining return of investment.

"It's tempting," he said of the approximate $1 billion in uncollected funds. "It must look like free money to the Legislature."

Kahn rejected Einess' claim that legislators are over-reaching.

"I'm saying that the department is under-reaching," she said, adding that "we haven't seen" diminishing returns.

Some at the Legislature believe other matters also comprise tax compliance.

Democrats say foreign operating companies are exploiting a loophole by not paying corporate income taxes. Republicans note that those firms aren't breaking any laws.

Democrats plan to bolster the state budget with an estimated $244 million by bringing those firms into the state tax fold, said Sen. Tom Bakk, DFL-Cook.

As the legislative session draws to a close, Bakk, co-chairman of the taxes conference committee, predicted that legislation calling for foreign operating companies to pay state taxes will be "one of the big pieces that will get us out of town."

The number of auditors legislators expect to hire to bolster tax compliance is too great to physically accommodate, Einess.

Pawlenty's recommendation would hire about 70 new full-time employees - mostly auditors - while the Legislature's proposal would hire 136, Einess said.

Einess said there isn't enough space to house that many new employees in current offices.

Reed agreed.

"There are practical problems" with the Legislature's proposal.

Kahn contends that the Pawlenty administration needs to literally look outside the box and consider new staffing procedures. The private market shows a strong model for workers who can telecommute by working from a remote location, she said, and should be considered.

Rep. Dean Urdahl, R-Grove City, serves on the state government finance conference committee. He said much of the tax compliance provision is funded by "funny money."

"They were banking on money that wasn't there," Urdahl said after the bill was vetoed.