Governor Tim Walz’s budget proposal released on January 16, 2025, describes his administration’s spending and tax priorities for the years ahead. Walz framed his proposal as a budget that would protect the investments made in 2023 to improve Minnesotans lives, as well as address long-term budget challenges.
Walz’s proposal is the first of the proposed budget plans released this session, in which policymakers will need to pass a balanced budget for the state’s next two-year cycle (FY 2026-27), which begins on July 1, 2025.
Backdrop to budget decisions in 2025
As we noted in our overview of the state’s November Forecast, challenges facing policymakers in 2025 include passing the FY 2026-27 budget with a smaller projected surplus than previously anticipated, preparing to respond to substantial disruption and harm from likely federal decisions, and that, starting in FY 2028-29, the state is not projected to raise enough revenues to sustainably fund its current commitments to public services Minnesotans count on. The state currently projects a $3.8 billion general fund surplus for FY 2024-25, a $616 million surplus for FY 2026-27, and a $5.1 billion shortfall for FY 2028-29.
In 2023, policymakers passed a budget that, from our perspective, started to make up for years of underfunding. They also invested in potentially transformational policy changes to improve Minnesotans’ well-being, such as Minnesota’s nation-leading Child Tax Credit, universal school meals, and the establishment of Paid Family and Medical Leave. Much of the unprecedented surpluses available to policymakers were temporary, and reflecting that reality, about $9 billion of the new spending policymakers approved in 2023 was “one-time” funding that they did not commit to continue after FY 2024-25. As a result, under those 2023 budget decisions, total general fund spending was projected to be smaller in FY 2026-27 than in FY 2045-25; the most current projections show baseline general fund spending for FY 2026-27 of $66.1 billion, down from $70.7 billion in FY 2024-25.
Walz’s priorities and big picture impact
Walz describes his budget as “set[ting] Minnesota up for success in the future by addressing long-term budget challenges and protecting the investments we made to improve lives.” He focuses on two areas of the budget that showed higher-than-expected growth in the November forecast – certain types of care for Minnesotans with disabilities and special education transportation. Other priorities Walz names include “tighter controls and greater oversight” on public services, changes to sales taxes, and making “targeted investments to support Minnesota’s economic growth.”
Walz’s budget proposal would increase funding for some areas of the budget and reduce them in others. Overall, his proposal would reduce general fund spending compared to the budget baseline by $165 million in FY 2026-27 and $1.3 billion in FY 2028-29. The biggest area of change is cuts in health & human services, including major changes in disability services. His budget also includes some revenue increases, as well as savings compared to the budget baseline from not fully keeping up with inflationary pressures on public services. In total, Walz’s budget would increase the FY 2026-27 surplus to $2.1 billion and shrink the projected FY 2028-29 deficit to $495 million.
Some of Walz’s proposed changes would reduce state spending by shifting some of the responsibility for funding services to school districts and counties. Our biggest concern are the proposed major cuts in funding – $348 million in FY 2026-27 and $982 million in FY 2028-29 – for disability waiver services, which nearly 63,000 Minnesotans in an average month count on to get the support they need in home or community settings. When presenting his budget proposal, Walz stated his intention that the proposed state funding cuts could be accomplished without reducing the number of people served or the quality of services provided, but stakeholders have raised concerns about the possible impact.
What follows is our first look at the governor’s proposal, focusing on the issues we are tracking most closely. We also provide some explanation about “discretionary inflation” and take a look at what’s next in the state’s budget-setting process.
Governor Walz proposed general fund net changes (compared to forecasted baseline)
| FY 2026-27 | FY 2028-29 | |
| Health and Human Services | -$278 million | -$1.2 billion |
| E-12 Education | -$172 million | -$339 million |
| Transportation | -$64 million | -$64 million |
| Property Tax Aids and Credits (Aids to local governments and property tax reductions) | -$10 million | -$21 million |
| Capital Projects and Debt Service | $0 | $0 |
| Environment and Energy | +$10 million | +$11 million |
| Jobs, Commerce, Agriculture and Housing | +$13 million | +$3 million |
| Higher Education | +$15 million | +$16 million |
| Cancellation estimates | +$15 million | +$15 million |
| State Government and Veterans | +$136 million | +$95 million |
| Public Safety and Judiciary | +$170 million | +$200 million |
| Total spending changes | -$165 million | -$1.3 billion |
| Revenues | +$398 million | +$497 million |
Child care
Walz’s budget includes a set of improvements to bring the state’s Child Care Assistance Program into greater compliance with updated federal rules, proposing a total of roughly $14 million in FY 2026-27 and a little over $20 million in FY 2028-29 from a combination of general funds and federal funds to do so.
The Child Care Assistance Program (CCAP) brings down the monthly cost of child care for lower-income families so that parents can go to work or to school. Over 22,000 Minnesota families participate in an average month, and nearly 4,000 child care programs are registered to care for those families.
In the spring of 2024, the federal government announced rule changes for the federal Child Care Development Fund (CCDF), which is one of the sources Minnesota uses to fund Child Care Assistance. The federal changes are designed to make Child Care Assistance work better for children, families, and child care providers. Among Walz’s proposed changes are reducing co-payments so no family participating in CCAP pays more than 7 percent of their incomes for care, and simplifying how eligibility renewals are handled when families have a new eligible child, which will provide more stable coverage and reduce administrative burden. Walz’s proposed changes only partially reach federal compliance. To avoid a financial penalty, Minnesota needs to come into full compliance by August 1, 2026.
Walz proposes budget neutral changes to the Great Start Compensation Support Program. The Great Start Compensation Program provides funding to child care providers to increase employee compensation. One of the proposed changes is expanding the types of child care providers that qualify as operating in a “Child Care Access Equity Area” and thereby receive higher Great Start Compensation payments. A Child Care Access Equity Area is an area where there is little access to child care, high poverty rates, high unemployment rates, low homeownership rates, and low median household incomes. This change would allow tribally licensed programs and programs that operate within tribal reservation land that meet all other qualifications to receive the higher payments.
These proposals make positive investments in child care, but we are concerned that Walz’s budget does not provide funding to address the Early Learning Scholarships funding cliff that is on the horizon. Early Learning Scholarships are another method through which families access affordable child care, but without action, from FY 2024-25 to FY 2026-27 there will be a $193 million reduction in funding.
Health care
The biggest funding reduction in Walz’s budget is a proposed $348 million cut in FY 2026-27 and $982 million cut in FY 2028-29 in Disability Waivers, compared to what funding is projected to be if no changes are made. The Disability Waiver program funds services for eligible people with disabilities so that their needs are met at home or in their communities, as opposed to institutional settings like hospitals or nursing facilities. The proposed reduction in funding would come in ways such as shifting a larger share of costs to counties, placing a cap on the number of days that services would be covered, and capping how much money goes to adjusting program funding for inflation, just to name a few.
Advocates have expressed concerns about the harm these cuts could have on people. Careful investigation of the proposed changes and engagement with impacted communities will be important to ensure that seniors and people with disabilities do not lose affordable access to crucial services if any changes are made this session.
Walz would increase revenues available to fund affordable health care under Medicaid (known as Medical Assistance) or MinnesotaCare. Walz recommends increasing the Health Maintenance Organization (HMO) surcharge by $173 million in FY 2026-27 and $177 million in FY 2028-29.
The governor’s budget proposes increasing funding for Medical Assistance (MA) expenses that comes from the Health Care Access Fund (HCAF) by $50 million in FY 2026-27 and $50 million in FY 2028-29, and decrease the general fund appropriation for MA by the same amount.
Tax policy
Walz’s budget prioritizes some much-needed updates that benefit renters in Minnesota. The first is a personal property tax exemption for low-income housing tenants starting in 2025. A recent Minnesota Supreme Court decision determined that low-income housing owned by nonprofit organizations could be exempt from property taxes. An alarming consequence is that some tenants of these exempt properties would now be directly responsible for paying a property tax on their unit. The governor’s proposal would limit the negative financial impact on tenants by protecting renters from having to pay a property tax, on top of their rent and other expenses. However, because the housing they live in is exempt from property taxes, tenants of such housing will be ineligible for the property tax refund for renters, or Renter’s Credit. The net impact of this proposal, compared to if no changes were made, is an increase in revenue of $20,000 in FY 2027, $1.1 million in FY 2028, and $1.2 million in FY 2029.
The governor’s budget proposal would help more renters get their Renter’s Credit by imposing a penalty on landlords for failing to submit a Certificate of Rent Paid (CRP) to the Department of Revenue. Increasing the state’s ability to penalize landlords for failure to submit a CRP should help ensure renters have the information they need to file for their Renter’s Credit. Getting CRPs in a timely manner has become even more important now that Minnesotans will apply for their Renter’s Credit on their income tax forms due in April, instead of the Property Tax Refund application due later in the year. This proposal would result in an additional $60,000 in revenue in FY 2028 and FY 2029.
Walz’s budget also proposes removing the “assignment” element of the K-12 Education credit. Minnesota’s K-12 Education Credit and K-12 Education subtraction provide a tax benefit for qualified education expenses that families have made. Currently, taxpayers can elect to assign the anticipated value of their K-12 credit over to a third party. Assignment seeks to address the timing challenges inherent to most tax incentives that are based on making a particular purchase, which is that the taxpayer needs to have the resources upfront to make the purchase but then wait until they file their income taxes to get the value of the tax benefit. Assignment is an unusual feature and it is not frequently used; fewer than 1 percent of K-12 credit filers elect to assign their refund. For those that do, it can be confusing and lead to unpleasant surprises at tax-filing time if the educational service or provider they selected does not end up being eligible for the credit. Additionally, some bad actors have used assignment of the K-12 credit to take advantage of low-income families in circumstances in which the families got inadequate or no education services and may not have received the promised tax credits. Walz’s proposal does not make any other changes to the K-12 credit – eligibility criteria and the size of credits families can qualify for will remain the same. However, those who had used the assignment process will lose this option for addressing its cash-flow and timing challenges.
A disappointing element of the governor’s proposed budget is the repeal of the Tax Filing Modernization Account and discontinuing implementation of Direct File. The 2023 tax bill created this account and set aside $5 million that could be used to establish a free online tool for filing state individual income taxes, which ideally would be integrated with the federal Direct File system for free tax filing. The Department of Revenue had already started planning for a system that mirrored the IRS Direct File program, but Walz’s budget proposal recommends not moving forward, citing the need for ongoing funding and uncertainty at the federal level. We think it is too soon to back away from giving Minnesotans the chance to have a free, easy, and time-saving tax-filing experience, and would encourage the Department of Revenue to plan to establish a Direct File program for 2026. While there is some uncertainty about the long-term future of Direct File at the federal level, residents of 25 states can use federal Direct File this tax-filing season, which is following success of the Direct File pilot in 12 participating states in 2024. Minnesota should not shut down planning for Direct File before there is a reason to do so. Under current law, any unused funds in the Tax Filing Modernization Account will cancel back to the general fund on June 30, 2027.
Tax Revenues
With state budget challenges on the horizon, Walz’s budget includes some items to raise additional revenues, including changes to the Minnesota sales tax. This proposal is expected to raise $205 million on net in FY 2026-27 and $261 million in FY 2028-29. The proposal is made up of two pieces: 1) it would cut the state’s general sales tax rate from 6.5 percent to 6.425 percent, which would lower the amount of sales taxes Minnesotans pay on their purchases; and 2) It would begin charging sales tax on some services, which include legal, accounting, brokerage and trust services, and some bank service charges. Walz describes the goal as focusing on services utilized primarily by higher-income people. There would be exemptions to these expanded services; sales tax would not be charged for services like tax preparation services for tax filers who qualify for the Child Tax Credit or Working Family Credit, legal fees associated with legal aid organizations, and overdraft banking fees. Extending sales tax to these services is a step toward modernizing the tax code. Sales taxes historically have been applied primarily to goods and infrequently to services, and have not kept up with changes in the economy in which services make up a growing share of consumer purchases. We look forward to learning more about this specific proposal and its impact on Minnesotans.
Walz is also proposing increased capacity to conduct audits and ensure tax compliance by businesses using pass-through entities. Pass-through entities are businesses that pay taxes on their profits through the individual income tax, rather than the corporate tax. Walz’s budget proposal states that the use of complex pass-through entities is growing, and that changes are needed in response to ensure tax compliance that contributes to a tax system that is transparent, accountable, and efficient. Increased capacity will come at a cost of $692,000 in FY 2026 and $1.4 million in FY 2027, and is anticipated to raise revenues on net in FY 2028 and moving forward.
How does “discretionary inflation” come into play?
When making projections, the state’s budget forecasts include “discretionary inflation,” which is an estimate of what it would take for funding for certain public services to keep up with inflation – specifically, those services that don’t have provisions in current law to increase with inflation or some other parameter.
Discretionary inflation in the November forecast is $926 million in FY 2026-27 and $2.2 billion in FY 2028-29. The projected $616 million surplus in FY 2026-27 and $5.1 billion deficit in FY 2028-29 are assuming that these entire amounts will be spent. These discretionary inflation amounts are not automatically allocated or required to be used for inflationary increases for existing services. Instead, these resources are only used if policymakers allocate them in their budget decisions – for new initiatives, revenue reductions, or to keep specific existing services up with inflation.
Across Walz’s budget, there are some proposals to increase funding for public services to help keep up with inflation or and other cost pressures – for state agencies, these are described as “operating adjustments.” In the budget documents themselves, they do not appear under the label of discretionary inflation but as specific proposed spending changes.
For FY 2026-27, Walz does not use the projected surplus or discretionary inflation amounts to increase spending in total. Instead, cuts in some areas of the budget, particularly K-12 Education and Health & Human Services, are used to fund increases in other areas, and total spending is reduced.
What’s next
The next significant benchmark in the state’s budget-setting process to come is the release of the February forecast – which is expected to be on March 6. This forecast will give revised state budget and revenue figures using updated information on economic conditions. The governor will release a revised budget plan to reflect this new information, and the February forecast will serve as the foundation as the House, Senate, and Walz seek to reach agreement on the next two-year budget. Policymakers will need to pass a balanced budget for FY 2026-27, but they are not required to take action this year to fully balance the budget for FY 2028-29.
Looking ahead, policymakers should also prepare to respond to protect Minnesotans’ health, well-being, and economic security from likely deep federal spending cuts. Federal policymakers have developed plans to dramatically step back from their commitments to health care, food support, and other services Americans count on to be healthy and get by. Federal grants make up around one-third of the state of Minnesota’s total revenues, totaling around $40 billion in the current biennium (FY 2024-25).
Federal budget plans under consideration include proposals to shift more responsibilities for delivering essential services to state and local governments, and at the same time, cut federal financial support that state and local governments use to provide services. Part of what is driving these proposed cuts to services is some policymakers’ desire to pay for tax cuts that provide the largest benefits to profitable corporations and high-income individuals. If the proposed federal tax cuts and spending cuts are enacted, it would greatly increase hardship in Minnesota and create incredibly difficult budget challenges for state-level policymakers.
By Carly Eckstrom, Jessie Luévano, Nan Madden, and Haleigh Sinclair