State’s work­arounds for fed­eral taxes not sim­ple

Connecticut Post (Sunday) - - Front Page - DAN HAAR

Bills that pass through the Gen­eral As­sem­bly unan­i­mously tend to re­ceive lit­tle at­ten­tion, and so it was last month when the Leg­is­la­ture ap­proved a sweep­ing mea­sure to coun­ter­act the fed­eral tax re­form act that took effect with Pres­i­dent Don­ald Trump’s sig­na­ture in De­cem­ber

Re­call, the fed­eral re­form sticks Con­necti­cut tax­pay­ers with thou­sands, in some cases tens of thou­sands of dol­lars, in ex­tra li­a­bil­ity if they pay more than $ 10,000 in state in­come taxes and lo­cal prop­erty taxes.

The com­bined loss for the Con­necti­cut econ­omy is in the bil­lions, al­though the fed­eral re­form could still lower many peo­ple’s taxes over­all.

The new Con­necti­cut law, which Gov. Dan­nel P. Mal­loy signed at the end of May, at­tempts to make tax­pay­ers whole again in two ways. Com­bined, they still won’t make up for the hit to some tax­pay­ers, but they make a dent — if the IRS ap­proves them.

One mea­sure gives cities and towns the power to cre­ate lo­cal, tax- free “com­mu­nity- sup­port­ing or­ga­ni­za­tions” to fi­nance mu­nic­i­pal func­tions. Prop­erty own­ers who con­trib­ute to such a “char­ity” would re­ceive cred­its on their town taxes and, if the ploy works, would be able to deduct the full amount they paid the town, as they do with all char­i­ta­ble do­na­tions, if they item­ize.

The other mea­sure cre­ates a new $ 600 mil­lion busi­ness prof­its tax for all “pass- through” busi­nesses that have more than one em­ployee — part­ner­ships and Type- S cor­po­ra­tions. The state im­me­di­ately re­funds that money to the peo­ple who own the busi­nesses, for no net change in tax col­lec­tion. And the busi­ness own­ers can take a full de­duc­tion.

New York, New Jersey, California, Illi­nois and Rhode Is­land have en­acted, or are in the process of en­act­ing, var­i­ous forms of work­arounds, ac­cord­ing to the Na­tional Con­fer­ence of State Leg­is­la­tures. Some are sim­i­lar to Con­necti­cut’s law.

Can it hap­pen?

Will the new state tax laws work? The stakes are huge. In Con­necti­cut, 41 per­cent of tax­pay­ers item­ize, and would lose an es­ti­mated $ 10.3 bil­lion in de­duc­tions for state and lo­cal taxes, known as SALT, ac­cord­ing to the state Depart­ment of Rev­enue Ser­vices.

The av­er­age state tax­payer who item­ized paid $ 19,664 in state and lo­cal taxes in 2015, ac­cord­ing to the Tax Pol­icy Cen­ter, a non­profit part­ner­ship of two Washington, D. C., think tanks.

That means an av­er­age loss of $ 3,500 for hun­dreds of thou­sands of house­holds, and many in Fair­field County would see losses a lot higher than that as a re­sult of the $ 10,000 fed­eral cap on de­duc­tions for SALT.

Only New York state was higher, with an av­er­age of $ 22,169 in SALT for tax­pay­ers who item­ized.

The new state laws rep­re­sent a noble ef­fort to com­bat a mis­guided fed­eral pol­icy de­signed to pun­ish high- cost states, al­most all of which cast their elec­toral votes against

Trump in the 2016 elec­tion.

Some de­fend­ers of the fed­eral tax re­form say the peo­ple who lose the most in the cap on de­duc­tions are rich house­holds who will ben­e­fit from lower over­all fed­eral taxes. Al­though that’s true, there are mil­lions of mid­dle- class Amer­i­can house­holds caught in the cross­fire, with high SALT pay­ments and in­comes too low to ben­e­fit from the fed­eral tax cuts.

And they live dis­pro­por­tion­ately in blue states such as Con­necti­cut, New Jersey, New York and California, which now suf­fer eco­nomic losses com­pared with other states.

Let’s look at the town char­ity idea here, and come back to the passthough busi­ness tax in a fu­ture col­umn.

Towns wait anx­iously

The mea­sure al­low­ing cities and towns to set up char­i­ta­ble foun­da­tions cre­ates the big­gest con­tro­versy, and by far the most con­fu­sion. It sounds com­pli­cated, and it is.

“We’re go­ing to do ev­ery­thing we can to make sure that we give our tax­pay­ers the break that they de­serve,” said Fair­field First Se­lect­man Mike Te­treau, a Demo­crat, who calls the fed­eral tax re­form “ap­palling.”

But Te­treau added, “The steps in­volved that the leg­is­la­tion has de­fined are at the mo­ment too com­pli­cated and not clar­i­fied by the leg­is­la­tion, so that there are too many ques­tions.”

For ex­am­ple, would towns cre­ate

one foun­da­tion over­all, or sev­eral, one each for, say, pub­lic works, schools and pen­sions? Would these com­mu­nity- sup­port­ing or­ga­ni­za­tions have pri­vate boards? If so, how could they be forced to al­lo­cate money the way the towns saw fit?

Un­der the law, do­na­tions to these or­ga­ni­za­tions would be ir­rev­o­ca­ble — so what would hap­pen if dis­putes arose?

“We’re still eval­u­at­ing whether this is an ap­proach we’d want to take,” said West­port First Se­lect­man Jim Marpe. “I want to make sure I don’t end up im­ple­ment­ing some­thing that is ad­min­is­tra­tively dif­fi­cult and ends up cost­ing the town.

“Ev­ery one of my coun­ter­parts who’s in an af­flu­ent com­mu­nity is look­ing at this, has their di­rec­tor of fi­nance and/ or their town at­tor­neys look­ing at these rules,” Marpe said.

Walks like a duck

Big­gest of all ques­tions is the specter of a ban by the IRS, which is ex­actly what the fed­eral tax col­lec­tion agency threat­ened on May 23. Lawyers aren’t talk­ing about it, as many sup­port­ers of the new laws in Con­necti­cut, New York and New Jersey say pri­vately they ex­pect the IRS to re­ject the char­ity idea.

In a sep­a­rate note, which the Con­necti­cut Con­fer­ence of Mu­nic­i­pal­i­ties con­veyed to cities and towns, the IRS as­serted that it, and not states, gets to de­cide what con­sti­tutes a char­i­ta­ble do­na­tion and what con­sti­tutes a tax. In other words, if it walks like a duck, the

feds will call it a duck.

Cer­tainly the “splash of cold wa­ter” from the IRS put a pause on the idea, Marpe said.

Re­gard­less of the rul­ing, lo­cal tax­pay­ers won’t see any re­lief this year and prob­a­bly won’t see any help next year. The state law re­quires towns to set up a sys­tem by Oct. 1 for the fol­low­ing fis­cal year, start­ing July 1. Few if any town of­fi­cials think they can pull off that feat by this Oct. 1, es­pe­cially towns that have a rep­re­sen­ta­tive town meet­ing, such as Fair­field, Green­wich and West­port.

State of­fi­cials wouldn’t say whether they — along with New York and New Jersey — would file suits to pro­tect the new laws in the likely event the IRS re­jects them. The three states are al­ready pre­par­ing a law­suit, an­nounced in Jan­uary, that will charge the en­tire tax re­form il­le­gally dis­crim­i­nates against states that have an in­come tax.

The state Of­fice of Pol­icy and Man­age­ment has not yet sent out any guid­ance on what cities and towns should do. And so the towns wait, but the pres­sure to act will be pow­er­ful.

In Fair­field, for ex­am­ple, the typ­i­cal home­owner in a house val­ued at $ 550,000 pays just un­der $ 10,000 in prop­erty taxes, Te­treau said. That means what­ever amount that home­owner pays in state in­come taxes is no longer de­ductible on fed­eral taxes — a huge hit.

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