Your Family Can Live With a $30,000 SALT Deduction Cap
(Bloomberg Opinion) -- “No SALT, no dice.” That's the message New Jersey Representative Josh Gottheimer and other Democratic lawmakers from high-tax states are giving President Joe Biden. The group says they'll withhold support for Biden's sweeping social-spending package if it doesn't include a repeal of the federal cap on deductions for state and local taxes, or SALT.
Before the 2017 tax law, taxpayers who itemized their deductions were generally able to subtract most of the state and local taxes they paid from their federal taxable income. A provision of the law set a $10,000 limit on the deduction, a blow to some taxpayers in high-tax states such as New Jersey, New York, Connecticut and California.
Restoring the SALT write-off entirely is a hard sell; the deduction disproportionately benefits top-earning taxpayers, and it loses a lot of money for the federal government. Also, as my Bloomberg colleague Justin Fox pointed out, other 2017 tax law changes, particularly involving the alternative minimum tax, have meant most taxpayers, including those in high-tax states, saw their tax rates go down on average, despite the SALT deduction cap.
Still, those are averages. Some taxpayers in these lawmakers' districts, including those who aren't millionaires, have been hammered by the deduction limit.
It's hard to generalize, but they tend to include those who weren't subject to the AMT before (so they were used to taking the full SALT deduction). Democrats in high-tax states are under pressure, since they know how important SALT is to voters, and they sense an opportunity as key political leaders have voiced support.
Ideally, there should be a simplified tax code with lower rates and fewer deductions, among other reforms. But since that doesn't seem likely anytime soon, a more practical way forward may be found in a proposal from Representative Lauren Underwood, an Illinois Democrat.
Underwood calls for increasing the federal cap to $15,000 for single filers and $30,000 for those who are married and filing jointly. As it stands, the $10,000 cap is in place for taxpayers who are single as well as married and filing jointly. And she wants those levels to increase each year in line with inflation, something the $10,000 cap doesn't do currently.
Keeping a deduction limit in place helps to ensure that the wealthiest aren't reaping the biggest gains. A full repeal of the cap would give the top 1% of earners (those making at least $540,000) the largest bump, with an after-tax increase in income of 2.8%, according to estimates from the Tax Foundation. Capping the deduction at Underwood's limits would give them an increase of just 0.37%, with other income quintiles benefiting more.
While the proposed caps of $15,000 and $30,000 may not seem like such significant increases from $10,000, they are more in line with what the average SALT deductions were for taxpayers in the $100,000 to $200,000 range — $11,500 — and for the $200,000 to $500,000 range — $23,400 — according tofrom the Tax Policy Center before the cap was in place.
More specifically, take a look at New York. The average SALT deduction was more than $10,000 in dozens of less affluent counties upstate. A $15,000 or $30,000 cap could potentially benefit many taxpayers who are considered middle class in those places.
It's important to note that it's tricky to assess exactly who would benefit from higher SALT limits because of the interplay with the standard deduction. Taxpayers can opt to itemize their deductions, including SALT, and deduct them from their taxable income, or take the standard deduction, which was doubled under the 2017 tax law. In 2021, the standard deduction is $12,550 for single filers and $25,100 for joint filers.
The proposal also addresses an unfair marriage penalty where two single filers could each claim a $10,000 SALT deduction, but once they marry and file jointly they're still limited to $10,000 (or $5,000 if married filing separately). The tax law fixed some of the ways the tax code penalizes married couples, but the SALT cap remains an outlier.
Finally, the cost of increasing the SALT cap rather than completely repealing it is substantially less. It is estimated that a full repeal of the cap would reduce federal revenue by $380 billion, if it stayed on the books until 2026 (when it’s scheduled to expire under the tax law). Increasing the cap to $15,000 or $30,000 would cost $135 billion during the same time period, Tax Foundation estimates show.
There are other options to modify the SALT cap, such as only allowing the benefit for taxpayers’ earnings below certain incomes, or swapping the deduction for a credit. But Underwood's seems to be the most targeted, effective and least burdensome to administer.
Unless SALT deduction supporters want to wait until the cap expires at the end of 2025, her plan might be the best compromise to help taxpayers who could actually use a break now.
This column does not necessarily reflect the opinion of the editorial board or Bloomberg LP and its owners.
Alexis Leondis is a Bloomberg Opinion columnist covering personal finance. Previously, she oversaw tax coverage for Bloomberg News.
©2021 Bloomberg L.P.