Repealing the State Income Tax Deduction

Proposal Would Hit Blue State Taxpayers (LAT, Sunday)

As President Bush lays the groundwork for a possible overhaul of the U.S. tax code, one option under consideration would deal its biggest financial blow to citizens of blue states such as California and New York. Some conservative activists are urging the Bush administration to scrap the federal deduction for state and local taxes as part of a broader plan to revamp the nation’s tax system.

Although the proposal would hurt some taxpayers in nearly every state, it would hit hardest in states with higher-than-average income levels and bigger-than-average state and local tax burdens. High on the list are a number of blue states — those that were carried by Democrat Sen. John F. Kerry in last month’s presidential election.

Taxpayers in California and New York, for example, which have top state income tax rates of 9.3% and 6.5% respectively, would be highly affected; residents of Florida and Texas, which have no state income taxes, much less so. “There’s no question this effort would punish blue states,” said Rep. Robert T. Matsui (D-Sacramento), a member of the tax-writing House Ways and Means Committee. Over time, he said, it could force state and local governments to cut expenditures. That could happen if taxpayers, stung by the higher tax burden that would come from losing the deduction for state and local tax payments, demand a cut in local and state tax rates and become unwilling to approve any increases.

Supporters of the change insist the disproportionate effect on blue states is a coincidence, but they acknowledge that the proposal could hurt most in states that voted against Bush. “Let me put it like this: It certainly isn’t something that’s a discouragement,” said one prominent conservative. “Yes, we talked about this. The fact that it hits blue states is not something that’s been missed among Republicans.”

But in a political complication, some blue states that would be hit hardest by the tax change are led by Republicans. If the White House adopts the proposal, it could create a rift with some of the GOP’s biggest stars in those states, such as Gov. Arnold Schwarzenegger and New York Gov. George E. Pataki, among others. Schwarzenegger’s office declined to comment on the proposal. But California State Controller Steve Westly, a Democrat, said it would amount to a hidden tax increase for millions of California taxpayers, who already pay $58 billion a year more to the federal government than they get back in services. “Simply put, it would be yet another poke in the eye from the federal government to California,” said Westly.

As the piece goes on to note, however, the proposal is largely offset by one to eliminate the alternative minimum tax, which disproportionately hits Blue State taxpayers. Indeed, Slate’s Daniel Gross dubbed the AMT a “tax on Democrats” and Business Week termed it a “stealth tax.”

Aside from the impact of the reform, however, it’s unclear why the federal taxpayer should subsidize high tax rates at the state level. By allowing this deduction, the federal government actually encourages higher state and local taxes, since local leaders can use the deductability of the tax as a selling point.

FILED UNDER: Economics and Business, US Politics
James Joyner
About James Joyner
James Joyner is a Security Studies professor at Marine Corps University's Command and Staff College and a nonresident senior fellow at the Scowcroft Center for Strategy and Security at the Atlantic Council. He's a former Army officer and Desert Storm vet. Views expressed here are his own. Follow James on Twitter @DrJJoyner.

Comments

  1. Aside from the impact of the reform, however, it’s unclear why the federal taxpayer should subsidize high tax rates at the state level. By allowing this deduction, the federal government actually encourages higher state and local taxes, since local leaders can use the deductability of the tax as a selling point.

    Bingo! I’ve been saying this for years, and I’ve lived in two major blue-state offenders (New York and Maryland). I can already hear the squealing.

  2. dw says:

    I know it sounds all great and STICK IT TO THEM LIBERAL COMMIES to you guys, but there are a number of Red States, like Colorado and Oklahoma, with some nasty state income tax rates.

    And hey, the state sales tax deduction is now available to residents of states without an income tax (Texas, Washington, Florida). IIRC, sales tax rates have increased significantly in the last twenty years in those states even without the exemption.

    The sales tax deduction, BTW, is only available to those who itemize, and I seem to recall the state income tax deduction is available to everyone.

  3. bryan says:

    Actually, for smaller states like S.C., state and local taxes are often more necessary than they are in the big liberal states like NY and Calif. And yet we’d be forced to pay twice.

    I’m as fiscally conservative as the next guy, but you start taking away my state and local tax deduction and I’m going to start voting some people out. Period.

  4. bryan says:

    Aside from the impact of the reform, however, it’s unclear why the federal taxpayer should subsidize high tax rates at the state level. By allowing this deduction, the federal government actually encourages higher state and local taxes, since local leaders can use the deductability of the tax as a selling point.

    It’s unclear why the federal taxpayer should subsidize this? How about the federal taxpayer is also a local and state taxpayer? We’re getting it from every direction and you want to increase the federal share? Pathetic.

    And the argument that local leaders can use deductability as a selling point is laughable. That’s why so many corps are created in Delaware.