Blue states seek to sidestep federal tax overhaul
WASHINGTON — Scattered community efforts to help residents lessen the blow of the Republican tax overhaul’s limit on a popular deduction are turning into full-fledged rebellion in California and elsewhere across the country.
Democratic politicians are pursuing creative — and some say legally suspect — maneuvers to help people circumvent a $10,000 cap on deductions for state and local taxes that took effect Jan. 1.
In addition to considering a lawsuit to try to block the limit, elected officials are looking at ways to turn those state and local tax payments into charitable contributions that would be fully deductible or convert state income taxes into payroll taxes that would have the effect of giving people the benefit of the deduction.
Republicans are already pushing back, raising the potential that Congress or the Internal Revenue Service could move to block the workarounds.
The state and local tax deduction had been unlimited and the recent federal change, which is designed to generate billions of dollars a year in additional revenue to the U.S. Treasury, will be a big blow to many residents of California, New York and other states with high income and property taxes.
The average state and local deduction taken by the 6.1 million California residents who filed for it in 2015 was $18,438, according to the Tax Policy Center. Only New York and Connecticut had a higher average deduction.
Most of the states with significant numbers of residents who would be hit by the change are controlled by Democrats, which has led to accusations that Republicans targeted the deduction for political reasons.
“It is an economic civil war,” declared Democratic New York Gov. Andrew Cuo- mo in a speech last week. “We must take dramatic action to save ourselves and preserve our state’s economy.”
He’s not alone in seeking to blunt the deduction change.
While New York is focusing on shifting its income taxes to an employer payroll tax, California state Senate leader Kevin de Leon, D-Los Angeles, has introduced a bill that would give residents a dollar-for-dollar charitable tax credit for state income tax payments into a new California Excellence Fund.
Taxpayers would be able to deduct the contributions to the fund that would pay for state services on their federal returns. There were no limits on charitable deductions included in the GOP tax overhaul.
“I think all blue states around the country are going to do anything in their power to protect their taxpayers and try to bring them tax relief, whether it’s through innovative state tax policy or through legal action,” de Leon said Tuesday. “I think that every option is on the table.”
Three New Jersey communities are working in conjunction with Rep. Josh Gottheimer, DN.J., to set up their own charitable funds to pay for police, schools and other services. Residents would pay into the funds and receive tax credits instead of paying property taxes. The state’s incoming governor, Democrat Phil Murphy, said last week that he wanted to “aggressively” pursue such a plan on a state level.
Connecticut Gov. Dannel Malloy also is exploring the state’s options for such changes, spokesman Leigh Appleby said.
Dean Baker, co-director of the Center for Economic and Policy Research, a liberal-leaning Washington, D.C., think tank, has been advocating that states fight back against the Republican bill.
“The idea of having a state government game the federal income tax, as a general rule, rubs me the wrong way,” he said. “Except I think this is really an extraordinary situation.”
With Republicans, in his view, enacting the limit to hurt Democratic states, “I think it’s perfectly reasonable for California and New York to say, ‘Is there a way for us to get around this?’ “Baker said.
Cuomo said New York would go to court to challenge the deduction limit, arguing in part that it amounts to double taxation because some money used to pay state and local taxes is then taxed by the federal government. He vowed his state would “lead the resistance to this injustice.”
Rep. Kevin Brady, R-Texas, who helped write the tax bill that passed Congress with no Democratic support, said that some state and local officials are “panicked” that “the era of ‘tax to the max’ is over” because tax increases will be harder to enact now that some residents will be limited in how much they can claim as deductions.