The Treasury Department moved Thursday to prevent states from allowing taxpayers to circumvent the GOP tax law’s new cap on state and local tax deductions.
The GOP tax law passed last fall limited the deduction taxpayers can take on their state and local taxes. Under the new law, taxpayers can only take a deduction on up to $10,000 in payments. Under the previous tax code, all state and local payments were deductible. The cap will increase tax bills in areas with high taxes, including Democratic-led states such as New York, California, and Connecticut.
Several states have approved or are considering plans to let residents get around that cap, including by reclassifying the money they send to the government as charitable contributions instead of tax payments.
But the new rule proposed Thursday by Treasury Secretary Steven Mnuchin would undermine those state laws by preventing taxpayers from taking advantage of them. The rule needs further federal review before being finalized.
“Congress limited the deduction for state and local taxes that predominantly benefited high-income earners to help pay for major tax cuts for American families,” Mnuchin said in a statement. “The proposed rule will uphold that limitation by preventing attempts to convert tax payments into charitable contributions.”
New York and New Jersey have enacted measures designed to let state residents get around the new limit.
Former IRS officials have been skeptical of these plans, saying payments should not be considered “charitable” if they replace mandatory taxes. Some academics who favor the workarounds have disputed that notion, pointing to existing tax credit programs in several states that allow donations to private schools to replace tax payments.
Democratic lawmakers have said the workarounds to the new cap are vital to their states’ economic health, arguing they are needed to protect middle-class residents from massive and sudden tax hikes. They have noted that, in 2017, millions of their state residents took the state and local tax deduction. (Some of these states are also suing the federal government over the law, arguing they were unconstitutionally targeted for living in states that tend to vote Democratic.)
But the tax provision (known as the “SALT deduction”) is more often used by wealthier people, who, by virtue of owning more and more expensive property and having higher incomes, tend to pay the most in state taxes.