IRS gives Minnesota a final ‘no’ on exempting state tax rebates from federal taxes

MINNEAPOLIS (AP) — The Internal Revenue Service says the nearly $1 billion in state tax rebates sent to more than 2 million Minnesotans last fall will be subject to federal income taxes, despite pleas from state officials.

The federal tax bite out of the checks and direct deposits could cost taxpayers between $26 and $286 apiece, depending on income and how much they received, the Star Tribune reported. The state Department of Revenue has sent a form to all recipients to use when filing their federal individual income tax returns this year. The payments are not subject to state taxes.

The IRS had been saying since December that it considers the rebates to be federally taxable income, which surprised state officials and sparked a flurry of lobbying by Democratic Gov. Tim Walz and members of the state’s congressional delegation to try to reverse that decision.

The agency gave the state a final “no” in recent letters to U.S. Reps. Pete Stauber and Angie Craig of Minnesota. IRS Commissioner Daniel Werfel told them the rebates didn’t count as general welfare or disaster relief, which can be excluded from federal taxes.

The rebates were part of a package of tax cuts approved in the 2023 legislative session to return a portion of a projected $17.6 billion budget surplus to taxpayers. Individuals were eligible for $260 if they had a gross adjusted income of up to $75,000 in 2021, and $520 for married filers who earned up to $150,000. Families could get an additional $260 rebate for up to three dependents, for a maximum of $1,300.

Stauber, a Republican, blamed “careless legislative mistakes” by the Walz administration and the Democratic-controlled Legislature in crafting the tax bill.

Walz said Minnesota was treated unfairly because the IRS decided the rebates weren’t the same as pandemic-era relief passed in other states. The federal government ended the COVID-19 health emergency May 11. Walz signed legislation authorizing the rebates May 24.