Ducey is taking a big risk on taxes
Gov. Doug Ducey is taking a gigantic political risk by spurning a special session to conform the state’s income-tax code with the federal changes made as part of President Donald Trump’s tax cut.
To simplify things for taxpayers, Arizona customarily adopts whatever changes are made at the federal level. Usually, doing so is uncontroversial.
This time is different, and it has nothing to do with Trump.
The federal changes involved lowering rates — big time for corporations, modestly for individuals. These lower rates were partly offset by reducing deductions and credits, known in taxwonk circles as broadening the base.
If, to preserve simplicity, Arizona adopted the base-broadening provisions, it would result in a windfall for the state. The same income-tax rates would apply to more of taxpayers’ income.
How much of a windfall is a matter of considerable uncertainty.
The state Department of Revenue puts it at a range of $50 million to $250 million. Such a broad range is the way economists say: “We don’t have a clue.”
The budget staff of the Legislature, whose numbers usually drive the policy discussion, has advanced a midpoint of $133.5 million, featuring heavy discounts and grave caveats.
If the state doesn’t conform, the legislative staff has identified 50 items on which state tax treatment will differ from that of the feds, evenly divided between individual and corporate returns. That’s a lot of taxpayers who will have more complicated state returns.
But if the state does conform, what should be done with the windfall, particularly given the monumental uncertainty about its size?
The state could pocket the money, at least until the amount becomes clearer. That would be the most prudent course — and, once they think through the policy options, the likely position of Democrats in the Legislature.
If the Legislature decides to take a guess about the amount and return the money, there are a number of options.
One would be to increase conformity even further. Arizona previously opted out of the federal bonus-depreciation provision for businesses. If the policy goal is simplicity for taxpayers, this would seem to have the first claim on the windfall.
Another meritorious claimant would be to increase Arizona’s standard deduction. The federal standard deduction was increased substantially, to reduce the number of taxpayers who itemize — an important simplification step.
As a result, however, there will be a large number of individual taxpayers who take the standard deduction at the federal level but still itemize for the state. An increase in the state’s standard deduction would reduce that number.
The tax rates could be toggled down. Or the Legislature could repeal the car-registration “safety fee” it adopted last session — unconstitutionally, in my opinion.
This time, conformity isn’t a simple issue. Working through the politics will take some time and some artful maneuvering.
The legislative leadership wants to go into special session and get conformity done before January, when people are supposed to be able to start preparing their 2018 returns. Ducey says not to worry; it can be done in January, when the new Legislature convenes for its regular session.
That’s neither responsible nor politically prudent. That requires the Department of Revenue and tax preparers to make a guess as to what the Legislature will do regarding conformity and the windfall. If they guess wrong, taxpayers will either have to redo their returns before filing or file amended returns.
There is no guarantee that the new Legislature will be able to deal quickly with conformity, particularly given the complication of what to do with the windfall.
Ducey and his troops have carefully, and brilliantly, managed his political persona. But waiting until January to deal with conformity puts it at risk.
If tax-filing season in Arizona becomes a fiasco, Ducey will get the blame. And he will deserve it.