With President Biden rolling out his big infrastructure plan on Wednesday, Congress will now debate the tax changes that should go along with it. One of those changes should be a tax cut that would benefit wealthy taxpayers, mostly in blue states.
You read that right. Yes, Biden rode to the White House promising to raise taxes on the wealthy, not cut them. Polls show voters strongly support higher taxes on those who earn the most. But first Congress should rectify a mistake Republicans made when they targeted a 2017 tax change at blue-state taxpayers and changed the rules many homebuyers thought were sacrosanct when they committed to long-term purchases.
The 2017 Trump tax cuts included a new cap of $10,000 on the deductibility of state and local taxes, known as the SALT deduction. Before that tax law, there was no limit on the amount of state and local taxes, including income and property taxes, that filers could deduct from what they pay at the federal level.
Republicans passed the 2017 tax cuts with no Democratic support. To meet Senate budgeting requirements, they needed some tax hikes to offset a sharp cut in the corporate tax rate and cuts in individual income tax rates that mostly benefited the highest earners. Capping the SALT deduction provided the revenue they needed, with a bonus: It would hit Democratic states harder than Republican states, because those states tend to have higher taxes for filers to deduct. The SALT deduction also acts as a subsidy for state and local taxes, which, again, confers the most benefit to states with the highest taxes.
I live in blue New York, so maybe I’m just lobbying for a tax cut for myself. As far as I can tell, however, I came out about even after the 2017 tax changes. As a homeowner who pays property taxes, I’d be able to deduct more than $10,000 from my federal taxes if the SALT cap were gone. But I benefited from other changes in the 2017 law and my federal payment stayed about the same. That's good enough for me.
Two reasons Congress should repeal the SALT deduction cap
Congress should repeal the SALT cap for two reasons unrelated to my own taxes. First, it’s terrible policymaking to target political opponents for more pain than your own tribe. It’s not especially logical, either. While reporting on the change in 2017 and 2018, I interviewed people in red states such as Iowa and Texas who ended up paying more because of the new SALT cap. It didn’t hit blue states exclusively, it just hit more residents of blue states than red states. Republicans controlled both houses of Congress in 2017, but Democrats control both houses now. They should kill this tax hike to emphasize the vulnerability of petty, punitive, partisan policies.
The second reason to repeal it is Congress shouldn’t upend core parts of the tax code that Americans take into account when making big financial decisions such as buying a home — even if they’re wealthy buyers. When most people buy a home, they account for all the tax effects to calculate a bottom-line monthly and annual cost. Property taxes are one of the biggest factors, and there can be a large differential if once-deductible taxes suddenly aren’t. Congress clearly changes tax rates from time to time, but taxes affecting home purchases deserve special protection because a home is not a liquid asset and homeowners can’t easily change what kind of home they own or where they live based on unexpected tax changes.
Before Congress changed the SALT deduction, it had been in place more or less the same since 1913, when the federal income tax first went into effect. The 2017 change was temporary; the $10,000 cap expires after 2025. That makes the change even worse, since taxpayers leading up to that time would have to make home-buying and related decisions wondering if Congress will extend the law or let it lapse. Better to clarify now and restore the full deduction.
A tax break for wealthy homeowners
This would undeniably be a tax break for wealthy homeowners, and it would cost Uncle Sam about $80 billion per year in foregone revenue — at a time when Biden and his fellow Democrats need new funding for infrastructure and social programs. So offset the full restoration of the SALT deduction with other taxes on the wealthy.
There are plenty of options. The Tax Policy Center has identified four alternative tax changes that would raise the same amount as the $10,000 SALT cap, with the simplest being a hike in the top income tax brackets. Biden himself has proposed tax hikes that would raise around $200 billion per year, including higher income tax rates on those earning more than $400,000, higher capital gains taxes on those earning more than $1 million and higher inheritance taxes. Democrats generally favor a higher corporate tax and some back a tax on financial trades.
Democrats face an obvious dilemma on the SALT deduction, since it seems hypocritical to call for soaking the rich, with this one exception for home-state rich. At least they’ve been consistent. Prominent Democrats such as Senate Majority Leader Chuck Schumer of New York have blasted the SALT cap since Republicans first proposed it in 2017. They’ve also been strident. A group of House Democrats from states such as New York and New Jersey say they won’t support Biden’s infrastructure bill unless it repeals the SALT deduction cap. Democrats have such slim majorities in both houses that they can afford essentially no defections on bills, if Republicans oppose them en masse. So it's plausible and maybe likely Congress will kill the SALT cap this year.
The artful political move would be for Democrats to repeal the cap while at the same time raising other taxes on the wealthy. On net, it would have to be a tax hike on higher-income taxpayers, to withstand the inevitable demagoguery from Republicans. The larger the net tax hike on the wealthy, the more defensible the whole thing will be, politically.
If the state and local tax deduction has outlived its usefulness, then it should be repealed or reformed as part of bipartisan legislation that one party won’t be tempted to undo when it has the power to do so. Right, I know: Congress doesn’t seem to do anything that’s bipartisan any more. Since that’s the case, it shouldn’t force partisan changes on taxpayers, either.
Rick Newman is the author of four books, including "Rebounders: How Winners Pivot from Setback to Success.” Follow him on Twitter: @rickjnewman. You can also send confidential tips, and click here to get Rick’s stories by email.