The state and local tax (SALT) deduction allows taxpayers of high-tax states to deduct local tax payments on their federal tax returns. The new tax plan signed by President Trump, called the Tax Cuts and Jobs Act, instituted a cap on the SALT deduction. Starting with the 2018 tax year, the maximum SALT deduction available is $10,000. Previously, there was no limit. Lets take a closer look at what the reduced deduction means for residents of high-tax states like California, New York and New Jersey.
How State and Local Tax Deductions Work
Taxpayers who itemize their deductions (meaning they don’t take the standard deduction) can deduct what they’ve paid in certain state and local taxes. This SALT deduction includes property, income and sales taxes. More specifically, anyone who itemizes can deduct property taxes, but must choose between deducting their income taxes and sales taxes. Most choose to deduct their income taxes because those payments generally exceed sales tax payments. Residents of states with high income taxes (California, New York, New Jersey and Maryland, to name a few) generally opt to deduct their state and local income taxes if they itemize. Residents of states with high sales taxes (Louisiana, Texas and others) and low or nonexistent income taxes generally opt to deduct their sales taxes if they itemize. However, property taxes and income taxes – not sales taxes – are the primary drivers of the SALT deduction.
Starting with the 2018 tax year, the maximum SALT deduction is $10,000. There was previously no limit. This will leave some high-income filers with a higher tax bill. The limit is also important to know because the 2018 standard deduction is $12,000 (for single filers). So you need to have another $2,000 of itemized deductions, beyond the SALT deduction, in order to itemize. This changes who should itemize their 2018 taxes.
Since these tax matters can get complex, it’s useful to have guidance through tax season from an expert. Financial advisors can provide you with that guidance, and you can pair up with an advisor using SmartAsset’s matching tool.
Who Uses the SALT Deduction?
Not every American takes the state and local tax deduction. High-income filers are much more likely to itemize and therefore more likely to take the SALT deduction. The higher your income, the more valuable tax deductions are to you in general because you’re taxed at a higher rate.
With the deduction for state and local taxes, the federal government is effectively subsidizing high earners in high-productivity states and cities. (Any deduction the federal government offers is a subsidy.) As you might expect, wealthy residents of wealthy states are most likely to pay state and local taxes. They also tend to have the highest average SALT deductions. According to the Tax Foundation, people with incomes over $100,000 receive more than 88% of SALT deduction benefits.
Those who stand to gain from deducting their property taxes tend to be those who have expensive homes in prospering communities. Filers who deduct their state and local income taxes tend to be high earners in thriving states. States and cities with high income taxes also tend to be high-opportunity states like California and New York.
Why the SALT Deduction Matters
The deduction for state and local taxes has been around since 1913, when the U.S. first instituted our federal income tax. Defenders of the SALT deduction, such as the National Governors Association, point out that state and local income, real estate and sales taxes are mandatory. Taxpayers can’t get out of them. For advocates of the deduction, eliminating it would therefore constitute double taxation.
At the same time, the SALT deduction is one of the largest federal tax expenditures. Along with the mortgage interest deduction, the non-taxation of employer-sponsored health benefits and pension benefits, preferential tax rates on capital gains and the tax deferral of corporate profits earned abroad, the SALT deduction costs the federal government trillions in missed revenue opportunities. In fact, the Congressional Budget Office expects that those and other tax expenditures will add up to over 8% of GDP in 2017. That’s an amount equal to nearly half of all federal revenues projected 2017.
So who will miss the SALT deduction the most? According to a 2016 report from the Tax Policy Center, “Taxpayers with incomes over $100,000 would have the largest tax increases both in dollars and as a percentage of income.” Eliminating the deduction entirely would raise taxes for about a quarter of taxpayers and reducing the deduction (as Congress is planning to do) would affect about half as of people.
Filers with incomes over $500,000 are greatly affected, but their loss in deductions could also be offset by the decrease of the top federal income tax rate (from 39.6% to 37%), the doubling of the estate tax deduction and the cutting of the capital gains rate from 23.8% to 21%.
Lower-income individuals would feel less direct impact from reducing the SALT deduction, but they would still be affected indirectly. That same report from the Tax Policy Center found that changing the SALT deduction could lead to a change in revenue for local and state governments. In response to the fact that people are paying more in federal taxes, those governments could choose to decrease their local tax rates. This would leave them with less to spend on government-sponsored programs and services.
How the Reduced State and Local Tax Deduction Will Affect Taxpayers
New York, Connecticut, New Jersey, California, Massachusetts, Illinois, Maryland, Rhode Island and Vermont are the states (plus the District of Columbia) with the highest average deduction for state and local taxes. Here’s how those deductions break down:
New York Taxpayers
Residents of New York take the highest average deduction for state and local taxes, according to IRS data. In 2014, 34.14% of New York tax returns included a deduction for state and local taxes. The average size of those New York SALT deductions was $21,038.02. Residents of New York City will pay particularly high tax rates due to the local income taxes assessed there.
Connecticut residents take the second-highest average deduction for state and local taxes. 41.04% of Connecticut returns included a SALT deduction in 2014. The average size of Connecticut deductions for state and local taxes was $18,939.72.
New Jersey Taxpayers
New Jersey residents pay famously high income and property taxes. It’s no surprise, then, that 41% of New Jersey tax returns claimed a deduction for state and local taxes. The average amount of that deduction was $17,183.33.
In 2014, 33.86% of California returns included a deduction for state and local taxes. The average California SALT deduction was $17,148.35.
Because D.C. homes are so expensive, residents tend to pay a lot in property taxes. Income taxes in the District are high, too. It’s not surprising, therefore, that 39.19% of D.C. tax returns included deductions for state and local taxes. The average size of those deductions was $15,452.40.
36.73% of Massachusetts returns took deductions for state and local taxes. The average size of Massachusetts SALT deductions was $14,760.99.
32.34% of Illinois returns deducted state and local taxes paid in 2014. The average SALT deduction on those Illinois returns was $12,877.51.
A whopping 45.04% of Maryland tax returns included a deduction for state and local taxes in 2014. That’s the highest percentage of returns claiming SALT deductions of any state. The average size of those deductions was $12,442.78.
Rhode Island Taxpayers
Although Rhode Island is a small state, its residents tend to have big incomes and big property tax bills. As a result, 32.83% of Rhode Island tax returns deducted state and local tax payments. The average size of Rhode Island SALT deductions was $12,138.75.
Finally, rounding out our list of the top 10 states with the highest average deduction for state and local taxes is Vermont, where 27.41% of returns took SALT deductions. The average size of state and local tax deductions in Vermont was $11,843.95.
|THE STATES WITH THE HIGHEST AVERAGE DEDUCTION FOR STATE AND LOCAL TAXES|
|State||Percent of Filers Who Deduct State and Local Taxes||Average Size of Deduction for State and Local Taxes|
Is the reduction of the SALT deduction just a rich person problem? Yes and no. It’s probably more accurate to say it’s a rich-person-in-a-blue-state problem. Residents of high-tax California, D.C., Massachusetts, Illinois, Maryland, Connecticut, New York and New Jersey would be the filers most impacted. Further, you don’t have to be truly wealthy to be impacted by the SALT deduction cap. Middle class Americans who currently itemize, especially those who are homeowners paying substantial property taxes, may also face higher taxes.
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