The Biden administration will need practically every Democratic representative in Congress to vote for its proposed $2 trillion package of tax increases, which would be the largest in 54 years. To gain that support, the president may have to season his legislation with some SALT. The bill, which raises corporate taxes and boosts capital-gains levies, among other things, doesn’t restore the full federal deduction for state and local taxes that Donald Trump’s 2017 tax-cut bill capped.
Democrats in key high-tax blue states, including New York representative Tom Suozzi and New Jersey representative Josh Gottheimer, have been complaining that Trump’s tax bill placed an undue burden on their states’ residents. Some have vowed not to support any tax legislation unless it reinstates the full SALT deduction. The problem: federal data show that restoring the deduction would overwhelmingly profit rich taxpayers—and lawmakers in many blue states have already raised their own levies on the rich.
The Biden legislation would boost the top corporate tax rate to 26.5 percent from 21 percent, slap a 3 percent surcharge on the income taxes of those earning more than $5 million annually, and raise the top income tax rate to 39 percent from 37.6 percent, while dropping the income level at which the highest rate kicks in to $450,000 for couples (down from $628,300). These changes and others, Biden hopes, will offset a $3.5 trillion spending plan that includes expanding Medicare and financing a national paid-leave policy.
As part of its 2017 tax cut, the Trump administration capped the SALT deduction at $10,000 because, supporters argued, only a small number of wealthy taxpayers in mostly high-tax states used it. Capping the deduction was projected to raise some $600 billion over ten years, in the process helping Trump finance the broader cuts in his 2017 legislation. Those included reducing tax rates in five of the seven income brackets, doubling the standard deduction that all taxpayers could claim, increasing the child tax credit, and reducing the impact of the Alternative Minimum Tax.
Opponents of the Trump tax package portrayed it as a gift to the rich and argued that capping the SALT deduction would also hit many non-wealthy taxpayers in blue states. Former New York governor Andrew Cuomo claimed that the Trump tax bill would “rape and pillage” his state, while then-California governor Jerry Brown called capping the deduction “gross manipulation” of the tax code and an “attack” on states like California. Though both governors had previously pushed for higher taxes on the rich, they now claimed that capping the SALT deduction would drive wealthy taxpayers out of their states.
Officials in blue states continue to make such arguments. Recently, Gottheimer held a press conference in front of a U-Haul truck and claimed, “Folks have been moving away in droves since our state and local tax deduction was gutted.” Of course, New Jersey has aided that process by imposing some of the most onerous state and local taxes in the nation.
Subsequent data have shown that the SALT changes fall heavily on the rich, while the vast majority of taxpayers in high-tax states have benefited from the Trump cuts. An analysis of 2018 New York tax returns found that the number of residents subject to the higher rates of the Alternative Minimum Tax declined to just 0.2 percent of all returns, down from 5.9 percent in 2017. Thanks to the doubling of the standard deduction, the number of New Yorkers itemizing their deductions shrank by nearly two-thirds that year, according to an Empire Center report. A recent report by the left-of-center Brookings Institution found that 57 percent of the benefits of restoring a full SALT deduction would go to the top 1 percent of households, providing them with an average tax cut of $33,000.
Many high-tax states have been crafting loopholes to allow their richest residents to claim the full federal deduction. One tactic the IRS has allowed involves granting certain rich taxpayers—specifically partnerships and S-corporations that file their taxes through the personal income tax system—the right to use a so-called pass-through entity that can also fully deduct local taxes. In Massachusetts, one study found that the workaround allows a partnership with $1.5 million in income to save $22,500 in federal taxes, while paying about $3,750 in higher state taxes. So far, a handful of Democrat-dominated states including Connecticut, Rhode Island, and Illinois have passed similar workarounds for owners of businesses and those whose income comes from partnerships.
Meantime, blue states are also continuing their efforts to increase taxes on the rich. New York State passed a $4.3 billion increase on wealthy residents earlier this year despite a budget surplus and billions in Biden stimulus money. The increase suggested, said the head of the state Republican Party, that “the mentality of those running the show is: eat the rich.” Massachusetts legislators are sponsoring a constitutional amendment that would let the state institute a progressive income tax so that it could raise levies on the wealthy. “Most people recognize that our wealthiest residents can afford to pay a bit more in taxes,” two sponsors of the ballot initiative recently wrote.
The Biden administration finds itself caught in a bind. It understands how bad it would look to restore the full SALT deduction, which would primarily benefit those with high incomes; that’s why the tax break isn’t included in the initial bill. Yet the administration also knows that, even under the best circumstances, its huge tax package will struggle for votes—and that’s why adding a little more SALT to the blue states’ eat-the-rich approach remains a possibility.