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By Brian Bakst, Minnesota Public Radio News

The federal government is taking a cut from most of the Minnesota tax rebates sent out this fall, meaning a $26 to $286 handover depending on the size of a household’s initial payout.

The Minnesota Department of Revenue failed to convince the IRS to treat the rebate as it had the pandemic-era checks delivered by other states, which were able to send money to their residents tax-free.

DFL Gov. Tim Walz voiced frustration at the outcome, using an expletive when asked about it and saying he had been in touch with the White House.

“Minnesota is being treated unfairly in this,” Walz said.

The rebates were $260 per person subject to income caps, with a qualifying household eligible for up to $1,300 if a couple had three or more dependents. The tax hit will also depend on a filer’s overall income this year.

From a broader perspective, it means that $100 million or more of the $1 billion overall rebate pot will wind up in federal coffers.

“It’s certainly disappointing. But ultimately, the IRS has the final determination on federal taxability,” Revenue Commissioner Paul Marquart said in an interview. “Of course, these are not taxable on the state level.”

The impact it will have is based on multiple factors. Marquart said his staff estimates that 18 percent of rebate recipients — about 390,000 — won’t owe anything because they don’t have a federal tax liability.

But the remainder of the 2.1 million recipients will be affected. Revenue Department estimates are that filers could pay anywhere from 10 percent to 22 percent of their rebate in federal taxes. A recipient of a $260 payment could owe between $26 and $57; for the household that got $1,300, the federal tax bill could range from $130 to $286.

Marquart’s agency will begin sending out 1099 tax forms this week reflecting the rebate amount for each recipient. They will have to claim that as income when filing federal returns for 2023. The instructions will remind taxpayers to subtract the amount from their adjusted gross income on Minnesota returns to avoid state taxation.

The IRS determination is a 180-degree turn from how it viewed similar rebates distributed by 21 states in 2022.

But it’s not out of left field, either. The IRS previously ruled that Minnesota’s frontline worker awards approved in 2022 were taxable, too.

The IRS also issued draft guidance this summer suggesting it would take the differing stance on recently enacted rebates. The guidance drew a distinction between checks issued in 2022 and those approved after that.

The IRS noted that the federal pandemic emergency declaration ended on May 11, 2023; Minnesota’s Legislature didn’t give final approval of its rebate until May 21, with the governor’s signature coming on May 23.

Walz said the cutoff irked him.

“Every other state was afforded this and they say, `Well, we’ve got to have a red line in the sand.’ So I’m deeply disappointed,” the governor said at a news conference primarily about the state budget forecast.

Republicans weren’t happy either, but described it as another blow to taxpayers who were banking on bigger checks than the Legislature served up given 2022 campaign pledges by Walz and others.

“They were expecting a $2,000 rebate check, and they got $260. And now on top of it, they’re gonna have to pay federal taxes,” said Rep. Kristin Robbins, R-Maple Grove. “Minnesotans are incredibly frustrated at how that $17.5 billion surplus was squandered, and this just adds insult to injury.”

State officials were hopeful the IRS would change course during a fall public comment period. Marquart said up until the final determination he maintained “a high sense of confidence that these would not be taxable.”

Marquart said architects of Minnesota’s rebate went so far as to mimic the ones that weren’t taxed by the federal government, basing it on 2021 income to tie it to pandemic hardship.

“We used the parameters and the facts that we kind of had before us to design this one-time rebate,” he said. “And we thought we had matched up very well with those states that had been found not taxable. But ultimately, it’s the IRS who makes that determination.”

Meanwhile, efforts to get the final rebates out are still ongoing. Most were delivered via direct deposit, but there were also paper checks issued.

Not all the checks were cashed before their expiration, so the state has been issuing new ones, with the last batch going out earlier this week. If those aren’t deposited or cashed, the money will eventually be moved to an unclaimed property account.