Minnesota's well-performing economy has left the state with a budget surplus of $1 billion, the Minnesota Management and Budget Office reported Thursday. Now legislators must figure out what to do with the windfall.

December 4, 2014 at 10:12PM

State Budget Director Margaret Kelly detailed the November state budget forecast during a press conference at the State Capitol, Thursday, December 4, 2014 in St. Paul, MN. (Star Tribune/The Minnesota Star Tribune)

Minnesota lawmakers and the governor will have a nice cushion with which to craft a budget after the Minnesota Management and Budget Office on Thursday reported the state will see a $1-billion surplus.

The surplus, though expected, will set the table for the start of the upcoming budget process as Minnesota legislators figure out what to do with the windfall.

State budget officials said Thursday that the surplus is the result of higher tax revenues, mainly in sales and individual income tax collections, and reduced spending in health and human services. Moreover, the budget surplus from the 2014-15 fiscal year, which ends in June, was projected Thursday to be $373 million after diverting a portion of it to the state's budget reserve.

Budget officials said the drop in spending on health care is largely because of a different composition of enrollees receiving medical assistance.

State budget director Margaret Kelly on Thursday said that though the number of enrollees in medical assistance grew slightly from a previous forecast, the uptick of enrollees have been largely adults without children. Since that forecast, the rate of familes with children and individuals with disabilities enrolling in medical assistance has also dropped.

Since February, when the Minnesota Management and Budget agency published its last forecast, the state's economy has expanded largely as projected, aided by stronger employment growth. The job gains have shrunk the unemployment rate to its lowest level in more than eight years — 3.9 percent.

Minnesota's economic outlook, however, was downgraded Thursday from the February report. State economist Laura Kalambokidis said that despite a turnaround in the labor market, wage growth is now projected to grow more slowly in 2014. Furthermore, it's likely that millennials burdened by high student-loan debt are not buying homes, which is reducing the rate of household formation.

Still, the budget forecast shows that the the state's fiscal picture has brightened considerably since February 2013, the last time the state faced a deficit, which stood then at $627 million.

Thursday's forecast will guide the governor's budget proposal, which Dayton has said he will present to the Legislature on Jan. 27. State lawmakers will craft their budget proposals based on a later February forecast, which includes updated economic data such as holiday retail sales and the country's fourth-quarter economic output.

Gov. Dayton has not yet gone into great detail on his priorities, but they are likely to include a request to fund child-care tax credits during next the next legislative session, set to begin next month.

"I'm not going to make any decisions until I see the revenue projections, but that's still one I would give a high priority," Dayton said Tuesday.

The tax credit would be intended to help families afford the cost of child care — a goal also supported by DFL legislators. The governor's budget proposal may include funding requests for transportation, or a specific proposal may be introduced separately early next year. Dayton said during his re-election campaign that funding basic maintenance of the state's infrastructure will be a key legislative priority.

The $1-billion surplus will likely make for a smoother session. Republicans are back in the majority in the House, but having extra money to work with would help the GOP, the DFL governor and DFL-controlled Senate create some common ground for compromise.

Dayton and legislative leaders on Thursday are expected to react to the complete report that was released at 11 a.m.