Under the TCJA, the previously unlimited SALT deduction was limited to $10,000, this is also known as the “SALT Cap”. The TCJA SALT Cap applies for tax years 2018 through 2025. The reason for this is that it was considered to be unfair to the federal government to subsidize bad fiscal policy in high-tax states, such as New York and California.
We will explore the impact the SALT cap has had on taxpayers and the states, the workarounds the states have made to lighten the load on taxpayers, and explore possible future changes to the SALT deduction.
The changes enacted in the TCJA have considerably affected the SALT deduction in the last several years. The SALT deduction reduced the cost of state and local government taxes to taxpayers because a slice of the taxes deducted is paid for by the federal government. The SALT cap increases the cost to the taxpayer and state and local taxes by decreasing the deduction’s value.
State and local tax payments and liabilities tend to increase with a taxpayer’s income. In addition, sales and property tax payments increase as a result of higher income and increased consumption. Thus, the SALT cap mostly affects taxpayers with higher income as this group would report more state and local taxes.
The $10,000 cap on the SALT deduction has produced a migration from high tax states to low/zero-tax states. Florida and Texas, two states with zero income taxes, gained the largest number of tax-filers from 2016-2017, amounting to 56,000 and 35,000 tax-filers, respectively. New York, one of the highest income tax states in the US, lost the largest number of taxpayers between tax years 2016 and 2017, amounting to 77,000 tax-filers. The loss of high-income taxpayers causes deficiencies in state budgets and incentivizes state governments to develop state tax legislation to retain their residents.
The SALT cap does not limit the deductibility of state taxes imposed on business entities. As a result, several states have proposed or passed legislation on Pass-through Entities (“PTEs”) designed to allow the PTEs to deduct state income taxes that the individual owners would have otherwise been unable to deduct under the SALT cap. This in known as a SALT Cap Workaround. The work-around legislation varies from state to state, but they share a similar goal of reducing the SALT cap’s effect on taxpayers without reducing their state or local tax obligations. As of October 27th, 2021, 19 states have enacted a form of a SALT Cap workaround to provide relief to state and local taxpayers within their states.
On November 9th, 2020, The IRS released Notice 2020-75 that effectively permits PTEs to fully deduct entity-level state and local income taxes that would otherwise have been paid by the owners of a PTE. This adds a layer of reassurance to states and individuals on working around the SALT cap.
Under recently proposed tax legislation, the House, currently held by the Democrats, has proposed to raise the annual SALT deduction cap to $72,500 from $10,000 through 2031. It was also proposed that the higher deduction cap would apply retroactively beginning in 2021. The proposed bill will eventually move to the Senate where the SALT deduction cap may be adjusted or removed as the proposal has received criticism from top Senate Democrats.
Despite the TCJA reducing the SALT cap deduction to $10,000 on federal income taxes, numerous states have found a workaround to the SALT cap deduction to maintain their budgets and retain high-income taxpayers within their states. Additionally, the proposed tax bill by the House provides that the SALT cap ceiling may be higher in the future.
If you have any questions regarding the SALT Cap Deductions or taxes related to it, please contact RVG & Company, today! (954) 233-1767.
2020 RVG & Company