The voices of Tax Policy Center's researchers and staff
On Wednesday morning, a panel of experts gathered at the Tax Policy Center to discuss what the Tax Cuts and Jobs Act (TCJA) means for state governments. Except for a heated debate over the federal cap on state and local tax (SALT) deductions, it’s an issue that Congress largely ignored before passing the TCJA. And that’s a problem, because as the Tax Policy Center explains in a new brief, every state with an income tax is connected in some way to the federal code.
It’s easy to understand why states tie their income tax systems to parts of the federal tax law. Income taxes are complicated so why not make state filing a bit easier by piggybacking on federal rules? And by conforming their tax law with the federal code, states can also rely on the IRS, Treasury, and federal courts for guidance and interpretation. But as John Hicks of the National Association of State Budget Officers said, “states conform because they want to, not because they have to.” With the TCJA now law, many state lawmakers will be questioning whether and how much they still want to conform to federal tax law in 2018.
The issues are bigger in some states than others. Nearly all states with an income tax start their calculations with federal adjusted gross income, which the TCJA did not change much. However, it did significantly increase the standard deduction, eliminate personal exemptions, and change some itemized deductions. States that use these federal provisions (see table 3 from the report) are facing big conformity questions.
For example, if these states adopt the new standard deduction amount and end personal exemptions, they’d be cutting taxes for childless households but increasing taxes on larger families. States could resolve the problem in one of three ways: They could also adopt the TCJA’s new larger child tax credit (CTC) and new non-CTC dependent credit, decouple from the federal standard deductions and personal exemptions and create their own rules, or completely overhaul their state income taxes. But each option creates new winners and losers and could affect state tax revenue.
States face similar questions with the corporate income tax changes. “Every year Georgia goes through this process of looking at federal changes,” said Laura Wheeler of Georgia State University. But she added the TCJA is different “because this tax bill gets at the fundamental structure of the tax code.” Wheeler said these changes make revenue analysis and projections far more difficult and thus increase risks to state budgets.
Curiously, most governors have said little about the TCJA. Over half have given a state of their state address this year and only four mentioned the federal tax changes.
An exception was New York Governor Andrew Cuomo, who made the TCJA a prime topic of his speech. He’s proposed replacing his state’s income tax with a payroll tax to avoid the new SALT cap (which he called an “attack on the essence of New York’s economy”). Legislators in California, Maryland, and the District of Columbia are considering a different workaround: giving residents a tax credit for (deductible) charitable donations to state programs like education.
Republican governors in Idaho, Iowa, and South Carolina used the TCJA as an opportunity to call for large state income tax cuts. Republican governors in Missouri and Nebraska, both states with big conformity issues, embraced tax cuts without mentioning the TCJA.
Meanwhile, Democrats and Republican policymakers in Colorado and Utah are talking about using new revenue from the TCJA to boost spending on priorities like transportation and education. But it’ll be interesting to see if they’ll be so anxious to spend the new revenue once they figure out that large families are mostly paying.
Hicks is not surprised that governors have avoided the conformity issue, given how little time they’ve had to figure it out. But states don’t have a lot of time to respond to the federal changes.
Most are in the middle of their July-June fiscal years, and nearly all changes apply to 2018’s taxable income (some are even retroactive to last year). Georgia has just 40 legislative days to figure this out. Sandra Beattie of New York’s Division of the Budget said Cuomo has only 30 days to amend the budget he presented just days after the TCJA was signed into law. And as Beattie also noted, all of this comes as states are dealing with federal budget cuts and balanced-budget requirements that prevent deficit-financing.
Over the next few months, governors, state legislators, and fiscal staffers must evaluate how the new law affects their states. But, as the panelists agreed, it will probably take states three to five years to adjust to the new federal tax law. Just in time for Congress to make the next round of changes.
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Michigan Gov. Rick Snyder delivers his State of the State address to a joint session of the House and Senate, Tuesday, Jan. 23, 2018, at the state Capitol in Lansing, Mich. (AP Photo/Al Goldis)