Most years, states are the focal point of 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. policy innovation while the federal tax code remains unchanged except for its ceaseless accumulation of preferential policies. Late last year, however, Congress flipped the script, reforming the tax code for the first time in 31 years—an action that sparked a flurry of activity in state capitols. Two states, Georgia and Idaho, have already cut their own tax rates in response to federal tax reform. Others may join them.
Because state tax codes typically conform to many of the provisions of the federal tax code, the new federal law has broad-ranging implications for states. Many base-broadening provisions at the federal level flow through to states, which may experience higher collections due to some combination of the repeal of the personal exemption, the loss or curtailment of certain 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, the limitation of the interest deduction, and other changes. How these provisions affect revenues varies from state to state, but most states can expect higher collections because of federal tax reform.
Lawmakers in Georgia and Idaho decided to give that money back, and then some, in the form of rate reductions and other changes to their own tax codes.
- Adopts a 0.475 percentage point across-the-board individual income taxAn individual income tax (or personal income tax) is levied on the wages, salaries, investments, or other forms of income an individual or household earns. The U.S. imposes a progressive income tax where rates increase with income. The Federal Income Tax was established in 1913 with the ratification of the 16th Amendment. Though barely 100 years old, individual income taxes are the largest source of tax revenue in the U.S. rate cut;
- Incorporates the new, higher federal standard deductionThe standard deduction reduces a taxpayer’s taxable income by a set amount determined by the government. It was nearly doubled for all classes of filers by the 2017 Tax Cuts and Jobs Act as an incentive for taxpayers not to itemize deductions when filing their federal income taxes. ($12,000 for individual filers);
- Follows the repeal of the personal and dependent exemptions;
- Creates a new $130 per 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. to offset the loss of the personal exemption; and
- Reduces 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 by 0.475 percent.
The bill represents a net tax cut of $104.5 million, as it provides $201.9 million in tax relief while assuming $97.4 million in additional revenue due to federal conformity. (See previous coverage here.) Another pending measure would increase the child tax credit to $205, which would cost an additional $25 million. The bill has passed the House and is now awaiting action in the Senate.
In Georgia, where federal tax reform is anticipated to increase state revenues by $5.2 billion over five years, Gov. Nathan Deal (R) signed state tax reform legislation which phases the top individual and corporate income tax rates from 6.0 to 5.5 percent by 2020 and doubles the standard deduction (to $4,600 for single filers). The bill carries a fiscal impact of about $5.5 billion over five years and thus, as with Idaho’s bill, represents a modest tax cut, going slightly beyond the new revenue anticipated from conformity. (See previous coverage here.)
Georgia and Idaho are the first two states to respond to federal tax reform with rate cuts, but they are unlikely to be the last. Other states are actively considering reforms as well. By providing states with an additional revenue buffer, along with an incentive to compete for additional domestic investment expected under the new law, federal tax reform is proving a compelling impetus for state reform. The only question is which state is next.Share