New Jersey and three other high-tax blue states are fighting the capping of so-called SALT deductions in a new federal lawsuit that seeks to invalidate a portion of last year’s federal-tax overhaul.
The suit argues a $10,000 limit that was placed on the deduction violates the U.S. Constitution, and it uses the words of the federal policy’s own Republican architects to make its case. During the debate over the tax legislation, Republicans made it known that, by capping what’s commonly known as the SALT write-off, they intentionally sought to punish states like New Jersey for levying high taxes.
The filing of the lawsuit was expected as the Democratic governors of New Jersey, New York and Connecticut had previously signaled their intention to take on the federal government’s new tax rules in the legal arena. But their effort has now been joined by Maryland’s Democratic attorney general, according to the suit, which uses lengthy, history-based arguments to assert that limiting the deduction violates the Constitution’s 10th and 16th amendments.
“The Constitution guarantees each State equal authority to control its sovereign affairs, including the ability to determine state taxation and fiscal policy,” the suit says. “Without a compelling purpose, the federal government may not target a few States for unfavorable treatment to coerce those States into changing their sovereign policy choices.”
A win for states could upset federal finances
In addition to wanting the new limit on the deduction to be ruled unconstitutional, the suit seeks an injunction that would prevent the federal government from enforcing the limit. The suit names U.S. Treasury Secretary Steven Mnuchin as defendant, along with the Internal Revenue Service. And while it only targets one element of the tax-code overhaul that President Donald Trump signed into law late last year, a ruling in favor of the four states could upset the broader policy since tax cuts that were a key feature of the reform legislation are now being financed, in part, with money the federal government will save by capping the SALT write-off.
Among the tax cuts in last year’s federal-tax overhaul was a lowering of individual income-tax rates and a significant reduction of the federal tax burden for corporations and those with large estates. The overhaul also increased the standard deduction for individual income taxes. To help pay for the tax cuts, several changes were made to rules related to federal tax exemptions and deductions.
While several analyses of the broader tax policy indicate many New Jersey residents will see some modest tax relief as a result of the overhaul, many others who itemize their deductions — an estimated 40 percent of the state’s taxpayers — are now in line to see a tax increase, largely due to the new cap on the SALT deduction. That’s because the average annual property-tax bill in New Jersey costs nearly $8,700 and the per capita state income-tax burden for New Jersey residents totals nearly $1,500.
The lawsuit, filed in federal court in New York yesterday, digs deep into the history books to lay the legal foundation for the states’ case that the new limit on the SALT write-off violates the Constitution. It goes all the way back to the 1790s to establish the precedent for the 10th amendment, and efforts to keep the federal government from stepping on the toes of states when it comes to setting tax policy. It also cites debates held at the beginning of the 20th century when the 16th amendment was being adopted; that further enshrined a deference to the states on tax policy.
But the suit also highlights last year’s public discussions as the federal-tax legislation was coming together in the GOP-controlled Congress; it does so to make the case that one of the goals of the tax overhaul was to make it more difficult for high-tax states like New Jersey to keep funding the level of services they have traditionally provided.
Republicans targeted ‘profligate, big government states’
The suit quotes House Majority Leader Kevin McCarthy (R-California) as saying the federal government was cutting taxes and issuing a challenge to governors “to do the same.” House Speaker Paul Ryan (R-Wisconsin) is quoted as saying the unlimited SALT deduction was “propping up profligate, big government states” that use high taxes to fund a certain level of government services. Then the suit makes the case that the Constitution and federal precedent specifically leave those types of tax-policy decisions solely up to the states.
“Simply put, the federal government violated the constitution when it imposed new, arbitrary limits on the amount of state and local taxes that residents could deduct on their federal tax returns,” New Jersey Attorney General Gurbir Grewal said in a news release issued after the suit was filed yesterday.
New York Attorney General Barbara Underwood said in her own news release that the SALT cap goes “well beyond” the “settled limits” on federal taxing powers. “We will not allow partisans in Washington to hurt our people or interfere with our policies,” Underwood said.
New Jersey’s participation in the lawsuit is just the latest effort to combat the new limit on the SALT deduction, which is estimated will cost the state some $326 million in lost tax revenue through fiscal year 2023. That’s largely due to changes in the real-estate market that are expected to occur in the wake of the new tax rules as the behavior of some homebuyers will be influenced by the loss of the full write-off.
Gov. Phil Murphy has enacted a new law that seeks to help local property owners get around the $10,000 limit by allowing them to make charitable contributions to local governments since such contributions are still fully deductible from federal income taxes. The new state budget Murphy enacted earlier this month also increases New Jersey’s own income-tax deduction for property taxes from $10,000 to $15,000.
“We will continue to fight to protect local taxpayers and businesses and I applaud Attorney General Grewal and the states of New York, Connecticut and Maryland for their leadership and action in challenging the constitutionality of this assault on our states,” Murphy said yesterday.