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Grewal ‘Proud to Lead’ Latest Challenge to IRS on Federal Tax Changes

The Internal Revenue Service proposed new rules to stymie ‘blue’ state efforts to get around a federal cap on SALT deductions. Attorneys general reveal how they plan to fight back

Gurbir Grewal
State Attorney General Gurbir Grewal

New Jersey’s attorney general is once again threatening to sue the Trump administration, this time to defend a new state law that helps to restore a full federal tax deduction for state and local taxes.

Attorney General Gurbir Grewal sent a letter to the Internal Revenue Service urging the federal government to drop a plan to adopt new tax regulations that would undermine the effectiveness of New Jersey’s new tax law.

The letter was signed by Grewal and his counterparts in California, Connecticut and New York, three other high-tax, majority Democrat states where new laws have been adopted to preserve the full deduction for state and local taxes that’s known as SALT.

The acrimony isn’t new between the Trump administration and the blue-state legal officials over the future of the SALT deduction since a recent federal tax-policy change capped the write-off; a related legal case is already going through federal court. But the letter that was sent to the IRS by Grewal and the other attorneys general last week sheds new light on exactly how they would try to defend the state tax laws in the legal arena. It cites more than 100 years of precedent and argues the new IRS rules, if adopted, would go beyond executive-branch rulemaking authority.

Grewal: ‘…dangerous and illegal’

“I’m proud to lead a coalition of Attorneys General opposing the proposed rules as dangerous and illegal, and I promise to challenge the IRS in court if it goes through with its plans,” Grewal said.

The dispute over tax policy stems largely from the broad overhaul of the federal tax code that was enacted late last year by President Donald Trump and the Republican Congress. Those changes resulted in a lowering of individual income-tax rates and also provided a significant reduction of the federal tax burden for corporations and those with large estates.

But to help finance the tax cuts, several deductions and exemptions were also adjusted. Among those changes was the capping of the longstanding SALT deduction at $10,000. That new limit will result in many New Jersey residents seeing a tax hike because their combined property tax and state income tax soar over the capped amount; local property tax bills average close to $8,700 in New Jersey, and the per-capita state income-tax burden is nearly $1,500.

New Jersey joined with legal officials from New York, Connecticut and Maryland earlier this year in a lawsuit that is challenging the constitutionality of the new SALT cap. Elected officials in several states, including New Jersey, have also adopted new state laws to help residents preserve their full SALT deduction.

New Jersey’s “workaround” law, enacted in May, takes advantage of the full deductibility for charitable contributions that the federal tax code allows. Under the state workaround, local governments can now create charitable organizations to collect donations from residents to fund services — like education and law enforcement — that traditionally are paid for using property taxes. It also allows the local governments, including municipalities, counties and school boards, to offer tax credits worth up to 90 percent to residents who donate to the new civic groups; the tax credits would offset their property-tax liabilities.

IRS roadblock

But the IRS put up a big roadblock when the agency published a new set of regulations for allowable tax deductions in August. If adopted, the IRS rule-change would reduce the tax benefit of the workaround laws passed in New Jersey and other states by effectively capping the allowable benefit at only 15 percent of any contribution.

New Jersey’s initial response was to issue new state regulations last month that included a disclaimer saying the state “makes no representations with respect to how the IRS will treat property tax creditable-contributions to a charitable fund.” But in the letter submitted to the IRS last week by Grewal and the other attorneys general, the states are now going on offense against the IRS by arguing the proposed new rules are legally flawed.

For example, the state officials allege the new rules, as currently written, would unfairly allow corporations to continue taking full charitable deductions while seeking to restrict those tax benefits for individual taxpayers.

“Any attempt to give businesses a back-door way effectively to claim charitable deductions for donations to certain entities while barring individuals from doing so merely confirms that the underlying rule is arbitrary, capricious, and unlawful,” the letter says.

‘…not within the IRS’s rulemaking power’

The letter also argues that the proposed rules conflict with treaties the U.S. maintains with other countries, including Canada, Israel, and Mexico, when residents make contributions to charitable groups that are based overseas. The attorneys general also suggest that by interpreting federal tax law in the way the IRS has, the agency has gone beyond the constitutional authority that’s granted to the executive branch.

“It is not within the IRS’s rulemaking power to usurp Congressional authority and overrule a tax law principle that has been unquestioned for more than 100 years,” the letter says.

The letter was submitted to the IRS just before a deadline for public comment on the proposed new rules that passed earlier this month. The next step in the rulemaking process is the holding of a public hearing on the issue, which has been scheduled for November 5, according to the IRS.

But if the agency continues to move ahead with its effort to adopt the new rules, Grewal promised New Jersey would be among the states that would be taking the IRS to court to upend what he’s calling “bad law and bad public policy.”

“The IRS should have stood by its longstanding view that tax credit programs like New Jersey’s are lawful,” he said.

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