Residents of some blue states may get a surprisingly big tax cut thanks to workarounds state lawmakers are crafting to subvert a controversial new cap on deductions for state and local taxes.
In places like New York, taxpayers will not only be able to claim the same break as before Republicans imposed a new $10,000 cap on the deduction, but they will also be able to sidestep longstanding federal rules on exactly when the deduction may be taken.
“They’re actually giving them a bigger tax break than they would have gotten under the previous law,” said Dean Zerbe, a former congressional tax aide and critic of the workarounds.
It’s a little noticed and unexpected dynamic in the partisan battle over the recent tax overhaul. The new SALT cap has been one of the biggest flash points, with Democrats from high-tax states complaining they were targeted by congressional Republicans. Now, months after the law passed, Republicans are having trouble convincing voters that they’re really going to benefit from the cuts the law enacted. Meanwhile, lawmakers in blue states are magnifying the cuts with their workarounds.
States say they are merely restoring what Congress took from them. But some of the states would go beyond that, giving their residents breaks unavailable in other states. What’s more, even as Democrats lambaste the new tax law as a giveaway to the rich, their workarounds would disproportionately benefit the well-to-do because they tend to have the most state and local taxes to deduct.
New York, Connecticut and New Jersey have adopted proposals to allow taxpayers, to varying degrees, to evade the SALT cap by recharacterizing their state and local tax payments as charitable contributions. Similar proposals are pending in other blue states, such as California and Illinois.
The IRS warned last month that it may not allow the maneuvers, and many experts predict the issue will end up in court. Some say the tax agency’s announcement will be enough to scare many people from trying to take advantage of the workarounds, though lawmakers in Illinois don’t appear to be deterred. The state’s Senate pressed forward with its workaround, even after the IRS warning.
If the states prevail, taxpayers could benefit.
For years, taxpayers have been allowed to deduct their property taxes and either their state income taxes or their sales taxes, but not both their income and sales taxes. The workarounds would effectively allow people to deduct all three — an unlimited amount of property and income taxes and up to $10,000 in sales taxes.
Not just that.
They would also amount to undoing a long-standing prohibition on people subject to the alternative minimum tax from claiming the SALT break.
Together, that would amount to a tax cut for constituents potentially worth thousands.
And because of the intricacies of how the workarounds would operate, those tax cuts could actually end up producing revenue for state and local governments.