Articles and accounts about the possibility of federal tax reform typically conclude with this: Californians appear poised to get thumped. More than anyone else in the country.
Indeed, if you’ve read such accounts about looming tax changes, you probably sighed and sorrowfully agreed that it seems logical, inevitable, close to absolute certitude that Californians, and particularly wealthier ones, are going to pony up much more moola to the Feds on April 15.
But wait. I’m here to give you hope. Maybe you need not worry about your ballooning future federal tax bill. That’s because it’s hard to see how the California-hurting tax reform can pass. More about that in a minute.
First, the background: As you know, taxes you pay to the state of California get deducted from your federal taxes. If you pay, say, $10,000 in state taxes, that $10,000 isn’t taxed by the Internal Revenue Service. It has been that way since the get-go. Otherwise, it would be double taxation.
But the Trump Administration says that situation is unfair. It questions why taxpayers in fiscally prudent, low-tax states should be forced to pay more to support the federal weal than their counterparts in profligate, high-tax states. Analogy: Would an apartment landlord charge lower rent to the few tenants who have high car payments?
Californians are the biggest beneficiary of the state tax deduction, by far. Close to 20 percent of all state tax deductions in the country come from California, according to the Tax Foundation. That’s because the state has the most people at the highest state income tax rate – more than 13 percent at the top. Of course, the higher your income, the more valuable that deduction becomes. (So I’m assuming since you’re reading the Business Journal, and since you’ve read this far, you are among the most exposed to the possibility of pain from this iteration of tax reform.)
The prevailing political logic is this: Republicans control Washington and the high-tax states tend to be blue states – California, New York, Connecticut, etc. – so it seems all but inevitable that Republicans will kill the state tax deduction. After all, they can call it the elimination of a loophole and quickly raise more than $100 billion a year. “What’s this?” Republicans can ask over any objections. “Democrats now oppose raising taxes on the wealthy?”
But I’m skeptical this brand of tax reform will happen. Why? For one thing, there are something like 80 Republican members of Congress in blue states. If just half of those representatives don’t go along – and assuming the Democrats hold together – the math suggests the whole kill-the-state-tax-deduction question gets thrown into 50-50 territory.