Late last month the “Big Six” released their tax plan which called for the elimination of several itemized deductions. While lacking specifics on which itemized deductions would be eliminated, it has been strongly hinted that cutting the state and local tax deductionA tax deduction allows taxpayers to subtract certain deductible expenses and other items to reduce how much of their income is taxed, which reduces how much tax they owe. For individuals, some deductions are available to all taxpayers, while others are reserved only for taxpayers who itemize. For businesses, most business expenses are fully and immediately deductible in the year they occur, but others, particularly for capital investment and research and development (R&D), must be deducted over time. is on the table. Eliminating the state and local taxA tax is a mandatory payment or charge collected by local, state, and national governments from individuals or businesses to cover the costs of general government services, goods, and activities. deduction would be used to fund other tax reform priorities, such as cutting the corporate income taxA corporate income tax (CIT) is levied by federal and state governments on business profits. Many companies are not subject to the CIT because they are taxed as pass-through businesses, with income reportable under the individual income tax. rate and expanding the Child Tax CreditA tax credit is a provision that reduces a taxpayer’s final tax bill, dollar-for-dollar. A tax credit differs from deductions and exemptions, which reduce taxable income rather than the taxpayer’s tax bill directly. . For more in-depth information on the state and local tax deduction and its incidence, my colleague Jared Walczak has recently written a great primer.
Today, The Wall Street Journal reported that lawmakers are considering a plan to preserve the state and local tax deduction for most taxpayers while eliminating it for high-income taxpayers. What constitutes a high-income taxpayer is somewhat subjective and the income level at which you cap the state and local deduction will impact how much it raises.
One possibility is that lawmakers subject the state and local tax deduction to a $400,000 AGI cap ($800,000 AGI for married couples). This means that taxpayers can only take the deduction if their incomes are under this threshold.
We estimate that this cap will raise an additional $481 billion over the next ten years on a static basis. Economic effects would be negligible, with a GDP change of -0.04% over the next ten years. The only income group which would see a change in their after-tax income would be the top 1%, with an average reduction of -1.8%.
An income-based cap on the state and local deduction would certainly limit potential tax increases to high-income taxpayers. However, the trade-off is that it would raise about one-quarter the revenue as full repeal.
| Static | $481 billion |
| Dynamic | $469 billion |
| GDP change | -0.04% |
| Source: Tax Foundation, Taxes and Growth Model (March 2017 version) | ||
| Changes in After-Tax Incomes | ||
|---|---|---|
| Income Group | Static | Dynamic |
| 0% to 20% | 0.0% | 0.0% |
| 20% to 40% | 0.0% | 0.0% |
| 40% to 60% | 0.0% | 0.0% |
| 60% to 80% | 0.0% | 0.0% |
| 80% to 100% | -0.6% | -0.6% |
| 80% to 90% | 0.0% | 0.0% |
| 90% to 95% | 0.0% | 0.0% |
| 95% to 99% | 0.0% | 0.0% |
| 99% to 100% | -1.8% | -1.9% |
| TOTAL | -0.3% | -0.4% |