A few stories are in the news today about 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 and local taxes paid, mortgage interest, and charitable contributions. , a provision of the federal income 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. system that allows taxpayers who itemize to deduct some of their state and local taxes paid from their federal taxable incomeTaxable income is the amount of income subject to tax, after deductions and exemptions. For both individuals and corporations, taxable income differs from—and is less than—gross income. , lowering their total tax burden.
This deduction is really bad policy for about a dozen reasons that my colleague Jared Walczak laid out in a fantastic paper released earlier this year. However, one of the reasons this policy seems to stick around is that a lot of folks think that the deduction is in place to protect against double taxationDouble taxation is when taxes are paid twice on the same dollar of income, regardless of whether that’s corporate or individual income. . Interest groups that want the policy retained for whatever reason stoke the flames of this misconception—for example, a coalition called “Americans Against Double Taxation” launched just today.
The problem is that their assertion is bunk. Jared’s findings:
In a federal system, moreover, individuals receive services from federal, state, and municipal governments. Each layer of government can be viewed as providing its own package of services, which one would expect to be “priced” separately. When two taxes levied by a single government, or similar types of governments (for instance, multiple states), fall disproportionately upon the same income or economic activity, this represents a clear case of double taxation. When different levels of governments levy taxes for discrete sets of services, the rationale for a deduction for taxes paid is far weaker.
Or as my colleague Kyle Pomerleau notes in less than 140 characters:
— Kyle Pomerleau (@kpomerleau) September 21, 2017
Imagine if we applied this faulty line of thinking to other tax types. Most states have both state and local sales taxA sales tax is levied on retail sales of goods and services and, ideally, should apply to all final consumption with few exemptions. Many governments exempt goods like groceries; base broadening, such as including groceries, could keep rates lower. A sales tax should exempt business-to-business transactions which, when taxed, cause tax pyramiding. es. What if we demanded that we be allowed to deduct our local sales taxes paid against our state tax liability on the same transaction? What if we demanded the ability to deduct our municipal property taxA property tax is primarily levied on immovable property like land and buildings, as well as on tangible personal property that is movable, like vehicles and equipment. Property taxes are the single largest source of state and local revenue in the U.S. and help fund schools, roads, police, and other services. payments from our county property tax assessed value? We don’t do either of these things, because the revenue is going to different government entities to pay for different things.
Repealing the state and local tax deduction carve-out will be an important part of pro-growth tax reform. Eliminating the deduction would free up $1.8 trillion to use for lowering rates across the board. Special interest groups will want you to think this deduction protects you against double taxation. Don’t fall for it.
For more resources on removing actual double taxation from the tax code, browse our research on the estate taxAn estate tax is imposed on the net value of an individual’s taxable estate, after any exclusions or credits, at the time of death. The tax is paid by the estate itself before assets are distributed to heirs. , capital gains and dividend taxes, and gross receipts taxes.Share