Blue-State Folly in Dems’ ‘Resistance’ to Keep SALT Tax Break for Wealthy

Experts are skeptical of 'desperation' attempts to retain favorable bottom-line situations for rich residents in high-tax states

Unwilling to accept the historic tax reform law crafted by President Donald Trump and congressional Republicans, blue-state politicians are scrambling for back-door schemes to preserve something they typically rail against — a tax break that mainly helps the wealthy.

Of all of the liberal targets associated with the Tax Cuts and Jobs Act, perhaps the strangest is a provision that caps how much in state and local taxes people can deduct on their federal returns. That limit, starting with tax returns Americans will file next year, will be $10,000.

Even in such states as California and New York with high local taxes, which will be most affected by the tax reform, most taxpayers will be untouched. GOP leaders estimate some 90 percent of taxpayers will take the standard deduction; the cap on deductions for state and local taxes (SALT) will not affect them at all. Most other taxpayers who do itemize still will come out ahead as well.

Marc Goldwein, senior vice president and senior policy director at the Committee for a Responsible Federal Budget, said if Congress had not changed the tax break, 96 percent of the value would have flowed to the top fifth of taxpayers, and the richest 1 percent would have claimed 60 percent of the benefits.

“SALT was a very regressive benefit, but it’s actually even more regressive now,” he said.

He said it is odd the Democratic politicians are howling so loudly, contrasting it with the “Not One Penny” movement, which opposed any tax cuts for the richest Americans. Over a decade, he said, restoring the SALT break would give nearly 31 trillion pennies ($310 billion) to millionaires and more than 59 trillion pennies ($590 billion) to households with incomes of more than $200,000.

Options under consideration. Yet Democratic leaders in big blue states are exploring avenues including creative accounting gimmicks as well as legal challenges to evade the tax reform. The options include:

  • Going to court. New York Gov. Andrew Cuomo has threatened to sue, claiming that trimming the tax break amounts to illegal “double taxation” and is a violation of the Equal Protection Clause because it hits some states harder than others.
  • Reclassifying taxes as “charity.” California lawmakers have discussed converting some taxation into a charitable donation to the state, which would let rich taxpayers claim tax breaks under the section of the tax code that encourages support of charities. California’s state Senate leader, Kevin de León, introduced a bill to create such a mechanism.
  • Changing the tax system. Some lawmakers have mulled replacing income taxes with payroll taxes. That would place the burden on businesses, which still can deduct those expenses under the new tax code. Cuomo has suggested that as an option for New York.

Goldwein and other experts contend the various schemes under consideration are of dubious legality and represent bad policy.

“To the extent these loopholes can be closed by the IRS, I hope they do so,” Goldwein said. “To the extent new laws are required to prevent this, Congress should pass them.”

Pete Sepp, president of the National Taxpayers Union, an advocacy group that favors wise expenditures of tax dollars, said the evasion attempts are posturing and unlikely to succeed.

“The best way to characterize these measures are acts of desperation and political opportunity,” Sepp said. “What they’re doing is building a piece of legislation on a foundation of sand.”

Sepp said he doubts New York has a valid legal argument. He noted that very few states allow taxpayers to deduct their local property taxes from state taxes, for instance. If it is illegal for Congress to eliminate a break based on the “double-taxation” argument, he said, it should be illegal for the states not to grant the same break at the local level.

“The nature of tax policy in a democracy is that it’s messy.”

Darien Shanske, a tax law expert at the University of California, Davis, said New York can try to argue that the tax law treats some citizens differently than others. For instance, real estate developers get better treatment than doctors making the same income.

Skepticism expressed. But he shared skepticism that it would be a winning argument. He said the courts generally give lawmakers great deference on tax policy.

“There are factual predicates that are strong but not strong enough to overcome the test,” he said. “The nature of tax policy in a democracy is that it’s messy.”

Shanske said reclassifying taxes as charitable donations also would face obstacles. “It definitely has this too-good-to-be-true feel to it,” he said.

But Shankse said there are 100 tax credits based on charitable donations in 30 states. He said a program that lets taxpayers direct money to their choice of a number of different programs might pass muster.

Sepp, however, questioned how it could work unless California were willing to declare that taxes are voluntary.

Related: The Tax Break for the Rich the Democrats Are Fighting to Keep

Adam Michel, a policy analyst at The Heritage Foundation, said the reaction of blue-state politicians highlights one of the most important rationales for cutting back the tax break — that it is unfair for taxpayers elsewhere to subsidize an expansion of government in those states.

“These high-tax states are, indeed, having to come to grips with the decreased subsidy,” he said.

Michel said it remains to be seen if high-tax states will trim the tax burden at the local level. But he said it may head off future tax hikes.

“I wouldn’t expect California or New York or New Jersey to make big tax cuts,” he said. “But I would expect it to make them more hesitant to pass new taxes.”

Experts generally agreed that the most legally defensible evasion strategy would be to impose a payroll tax, which businesses could then deduct. But Sepp said just because it is legal, “doesn’t mean it is practical.”

He said designing a replacement tax would raise questions about how to handle the self-employed workers who have multiple jobs in a year, along with a host of other questions. Shanske agreed it would be complicated but said it is doable.

Michel said such a system might cost workers more money in the form of lower wages if businesses pass on the cost. And, he added, it surely would spark opposition. “From a legal standpoint, it’s the most likely,” he said. “But politically, it’s the most difficult.”

PoliZette senior writer Brendan Kirby can be reached at [email protected]. Follow him on Twitter.

(photo credit, homepage images: Andrew Cuomo, CC BY 2.0, by MTA Photos / Jerry Brown, CC BY 2.0, by California Air Resources Board ; photo credit, article images: Andrew Cuomo, CC BY 2.0, by MTA Photos / Jerry Brown, CC BY-SA 2.0, by Neon Tommy)

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PoliZette senior writer Brendan Kirby can be reached at [email protected].