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November 30 2017

Eliminating the SALT Deduction

by Charlotte Hays

Politicians from states with high taxes such as New York, California, and New Jersey, are apoplectic that the GOP tax reform would eliminate most of the  deductions for state and local taxes (salt). They have come up with a convincing argument for maintaining the deduction: their states, you see, are "donor" states that send so much money to Washington to help lesser states that they deserve that deduction.

But are they really donor states? Are we all beholden to California, New York, and New Jersey? Steven Malanga of City Journal explains why the "donor state" argument is wrong:

Politicians from high-tax states like New York, California, and New Jersey have made this case for decades, dating back to when former New York senator Daniel Patrick Moynihan first began tracking taxes paid by residents of each state to Washington and comparing them with the amount of federal money flowing into each state. Others have continued Moynihan’s exercise, tracking these flows, but often in the most superficial ways, designed to create the illusion that some states are “dependent” on Washington because they get more than they send, while others are “donors” to the rest of the country.

Much of the money that these analysts count as flowing to the states doesn’t come in the form of discretionary federal aid, however, but as payments that individuals have earned, or for contracts that Washington competitively awards. That’s not exactly “dependency.” As for the revenue side of the ledger, richer states do pay more in net taxes to Washington than less wealthy states, thanks to our progressive tax code—which politicians from “donor” states overwhelmingly support.

An important category of so-called federal spending in the states is retirement benefits, three-quarters of which consists of Social Security payments. Also included are payments to veterans, retirement benefits to federal workers, and disability payments. These are the largest classifications of funds flowing to the states—and they’re a big reason why Blue states fare poorly in the total accounting of federal dollars. On a per-capita basis, California receives the second-lowest annual payments of federal retirement benefits. Illinois ranks fifth-lowest, New York is ninth, and Massachusetts is eleventh. All are so-called donor states. No single cause explains why these states rank so low, but it’s certainly not because the federal government is favoring other states—Washington doesn’t distribute Social Security as discretionary aid. One possible explanation: some of these states often appear on lists of worst places to retire, and census data show a net outflow of older Americans from places like New York, Illinois, and New Jersey. Not surprisingly, warmer Southern states like Alabama, South Carolina, and Florida rank high in their reception of federal retirement dollars.

Malanga points out that another outlay is military spending. The donor states were once recipients of this money but no longer. When the Reagan administration, taking note of reduced military spending in New York,  proposed a naval station on Staten Island, the city council passed a resolution against it.

Ironically, when it comes to one huge category of federal spending, the self-described donor states are actually recipient states--big time:

Donor-state politicians regularly lobby for more discretionary federal social spending—that’s often their goal in seeking more money to redress the outflow of dollars from their states. The problem, though, is that these states already get generous amounts of federal social aid. This category, known as grants, includes Medicaid (which accounts for half of the spending) and federal subsidies for housing and local education. New York receives the third-highest per capita funding of any state in this category; other Blue state donors including Massachusetts, Connecticut, California, and New Jersey all rank well above the national average in this spending.

The deduction for state and local taxes enables these states to keep their taxes high. Without the deduction, they would have to contemplate the unthinkable--lower taxes--or face flight from more affluent citizens.

And one more irony:

All of this helps make the state and local tax deduction such a tempting target. It’s appealing for Republicans to argue that Congress can help fund tax cuts for most Americans by requiring rich New Yorkers and Californians to pay taxes on the $500,000 or so of income that, up until now, they have been able to claim through the SALT exemption. By closing this loophole, Republicans are essentially finding a new way to tax the rich. It’s no secret who they learned that from.

Independent Women’s Forum’s mission is to improve the lives of Americans by increasing the number of women who value free markets and personal liberty. Sister organization of Independent Women’s Voice.
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