Saturday, January 27, 2018

States Rebel Against Republican Tax Law

The Republicans changed tax law so that starting in 2018 there will be a upper limit of $10,000 for state and local tax deductions to federal taxes (SALT). If you happen to be impoverished, low income or live in a relatively low tax state the impact of this change on you will probably be small or non-existent. If you however live in one of the relatively high tax coastal states and/or happen to be somewhat well off then the impact will be a bit greater. And it may not be a very nice change. Unless the states make other changes, placing a limit on federal deductions for local taxes means that all else equal some people will pay more in federal taxes. Or to put it another way, the federal government will no longer help shield you in toto from your state's tax policy. States will then have less money available for local initiatives.

This delights many Republicans for at least four reasons. (1)They really do believe in low taxes for the wealthy and low services (at least for the poor and middle class). (2) They deeply resent their perception of federal underwriting of higher tax bases in Democratic leaning states. (3) They enjoy watching people who claim to support higher taxes on the wealthy in general turn around to fight effective higher taxes on their wealthy. (4) Most of the states impacted are "blue" states, not "red" ones. Here it's very important to point out that the cost of living/housing can vary widely from state to state. Someone in say SE Michigan with a household income of $180K and a home valued at $500K may be better off even before taxes than someone in New York City with a household income of $250K and a home valued at $700K. Generally the South and Midwest are lower cost regions than the Northeast and West coast.

Some states who feel that they will be negatively impacted by this change are taking steps to fight back. Generally speaking they aren't considering lowering state taxes. No. The states are seeking ways around this new law by changing state and local taxes to charitable contributions. The charitable contributions over $10,000 would thus still be fully deductible from a taxpayer's federal tax bill. Along with the charitable dodge, some other states, led by New York, are saying that they will sue the Federal government. The states claim that the new law is unconstitutional because it impacts certain states negatively. 

The governors of New York, New Jersey and Connecticut said on Friday they are forming a multi-state coalition against a new federal tax bill and will file legal action challenging the constitutionality of the legislation signed in December.

The bill unfairly impacts their states with its repeal of state and local tax deductibility, the first federal double taxation in U.S. history, the governors said during a call with reporters.

New York Governor Andrew Cuomo said there were “very strong” arguments that the bill violates states’ rights as well as the Equal Protection clause in the U.S. Constitution. “The top 12 states that get hurt (by the bill) coincidentally all happen to be Democratic states,” he said.

Republicans are not very numerous in the Northeast or coastal West. In fact they're an endangered species in those areas. But in the Midwest and the South Republicans are common. And those two regions, particularly the South, have seen Republican dominance for a very long time. So tax changes to stick it to the Northeast weren't a hard sell among Congressional Republicans.

I don't think the lawsuit will be successful. Congress has the right to change tax policy. Congress and to a lesser extent the executive branch make changes all the time that help some states or industries and hurt other ones. That's just how things work. Suing over tax policy changes seems to be a dead end. It would be like Michigan claiming that laws around cherry or apple farming disproportionately impact it and therefore, yada, yada, yada, they are not only bad policy but violations of Equal Protection. Usually the proper way to reverse or change tax policy is to win an election. Obviously there are lots of exceptions to this as I know several tax lawyers would point out. I'm just not convinced that this is one of them.

Renaming taxes to charitable contributions might be a better way to move around the federal law. The problem with that of course is that the IRS would have to agree with that move. I don't think they would. The important thing about charitable contributions is that they are voluntary. Taxes aren't.  

The scheme would permit homeowners to make "charitable contributions" to their towns in return for tax credits that could be used against their property taxes. They could then deduct the contributions from their federal taxes - in theory at least.

In reality, there's little chance the IRS will fall for this stunt, said a state Senator who is a certified financial planner in real life. Republican Steve Oroho of Sussex County said the IRS is not likely to buy the idea that the payments could be considered "gifts" if the homeowner has no choice but to pay up.

And some states upset about a federal limit on state and local tax deduction themselves already have limits on charitable deductions. In short every taxing authority wants "their" money. Who knows how all of this will work itself out. What it does show, just as the election did, that Democrats are politically vulnerable by being overrepresented geographically in certain areas. It also shows another way that the country is slowly starting to come apart at the seams. When you use tax or other government policy as a way to sock it to THOSE PEOPLE, once THOSE PEOPLE get power they will feel emboldened and justified in doing the same thing to you. 

To be fair there is an argument to be made that a state ought not be able to raise taxes secure in the knowledge that the federal government will shield taxpayers from the full weight of the tax increase. There is also an argument to be made from the opposite direction, that higher tax states shouldn't be sending money to lower tax states. Ironically, if states succeed in gutting the new tax law the expected deficits would be even higher, which isn't good for anyone--if anyone still cared about deficits. 

What's your take?

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