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Jun 4, 2018

Radha Mohan, Lai King Lam Analyze State Reactions to New Tax Deduction Caps

When the 2017 Tax Act capped the individual federal income tax deduction for state and local taxes at $10,000, there was an uproar from higher-tax states such as California, Connecticut, New York and New Jersey.

In a May 31 column published in Law360, Radha Mohan and Lai King Lam, both assistant vice presidents in McGuireWoods Consulting’s federal public affairs practice, explained the actions some states have taken to cushion the blow to their taxpayers.

One workaround they cited involves new state laws that allow taxpayers to make contributions to qualified charities or government-created funds in exchange for tax credits that lower their property tax liability.

Another, enacted by New York, involves a complicated voluntary employer payroll tax program in which participating employers assume part of their workers’ state tax liability. The arrangement takes advantage of corporations’ ability to deduct state and local taxes from their federal taxes.

The Internal Revenue Service has taken notice, however, and is working to draft guidance on these newly established state and local workarounds that, by one unofficial estimate, could cost the federal government $154 billion in the next eight years. According to the authors, the IRS could, for instance, determine that state tax credits received in exchange for donations to funds or charities constitute a quid pro quo and disallow them.