Late last month the “Big Six” released their tax plan which called for the elimination of several itemized deductionItemized deductions allow individuals to subtract designated expenses from their taxable income and can be claimed in lieu of the standard deduction. Itemized deductions include those for state and local taxes, charitable contributions, and mortgage interest. An estimated 13.7 percent of filers itemized in 2019, most being high-income taxpayers. s. 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 is a provision that reduces taxable income. A standard deduction is a single deduction at a fixed amount. Itemized deductions are popular among higher-income taxpayers who often have significant deductible expenses, such as state/local taxes paid, mortgage interest, and charitable contributions. 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 incomeAfter-tax income is the net amount of income available to invest, save, or consume after federal, state, and withholding taxes have been applied—your disposable income. Companies and, to a lesser extent, individuals, make economic decisions in light of how they can best maximize 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.
|Source: Tax Foundation, Taxes and Growth Model (March 2017 version)|
|Changes in After-Tax Incomes|
|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%|