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The Estimated Impact of the Cap on SALT Deductions in Illinois

The views expressed are those of the author and do not necessarily reflect the views of ASPA as an organization.

By Yonghong Wu
June 3, 2019

The Tax Cuts and Jobs Act of 2017 (TCJA) places a $10,000 cap on a filer’s sales and local taxes (SALT) deductions from taxable income. This means that the SALT paid in excess of $10,000 can no longer be deducted on a filer’s federal income tax. As a result, the federal income tax liabilities for those who itemize their taxes and have SALT payments above $10,000 will rise. Their after-tax incomes will shrink, holding all other factors constant.

 “Over the course of the last year, our cites have been thinking about the impact of the SALT cap,” says Christiana McFarland, Director of Research at National League of Cities. “There’s no question that the ramifications of SALT will be very consequential to many of them.”

A little background: Until now, and since the enactment of the Revenue Act of 1913, filers of federal income tax returns have been allowed to deduct certain state and local taxes (SALT). When the option of itemized deductions is selected, filers have been allowed to include deductions for state and local property taxes and general sales or income taxes. The SALT deductions decreased a taxpayer’s federal taxable income, and thus reduced that taxpayer’s ultimate federal tax liability. For example, if one federal income tax filer paid $15,000 in state, local property and income taxes and the marginal federal income tax rate is 22 percent, that filer can reduce federal income tax liability by $3,300 in that year.

The deductions of SALT have become a major tax expenditure for the federal government. According to the estimate of the Joint Committee on Taxation in 2014, about $63 billion of federal income tax revenue will be lost in 2016 due to SALT deductions. On the other hand, the lost federal income tax revenues are an important source of federal subsidy to support state and local government finances. Federal government effectively pays a proportion of state and local government tax revenues through the federal income tax system.

Given the substantial contribution of this federal subsidy to state and local government finances, it is important to understand the impact of the capped SALT deductions. States with higher tax burdens receive more of such federal subsidy because their taxpayers can deduct larger amounts of SALT. Those states are also affected the most.

Consider Illinois: In 2016, Illinois’ average state and local property taxes, general sales taxes and individual income taxes were $2,120, $1,091, and $1,076 per capita, respectively. Though the state’s property taxes are well above the national average, Illinois is a reasonable model as its  general sales tax and individual income tax burdens are very close to the national average levels.

Using the 2015 Statistics of Income data from the Internal Revenue Service, we estimate that approximately 15 percent of all federal income tax fillers in Illinois should be negatively impacted by the new SALT deduction cap. (It should be noted that the estimated reduction in income of tax filers are based on the assumption that the $10,000 SALT deduction cap had been in place in 2015. They are not the net effects of the TCJA.)

The tax filers who would likely see their federal income tax liability increase due to the new cap concentrate in high-income brackets and in communities with high local tax rates. For instance, the majority of tax filers in the 11 zip code areas of Cook, Lake and DuPage counties, all mostly high-income communities, would see higher federal income tax liabilities. At the maximum, nearly 64 percent of the tax filers in zip code 60022 in Glencoe, Cook County, which has the highest median household income in the state, are predicted to  have increases in their federal income tax liabilities under the new SALT deduction cap as compared with their federal tax liability in 2015 when the SALT deduction was not capped.

On average, the SALT deduction cap will not have a large impact on personal income overall in Illinois.  The estimated average impact of the cap for the entire state would be 1.8 percent of the adjusted gross income (AGI) of the affected filers at the highest AGI bracket─ $200,000 and more. The impact would be more significant for higher income tax filers and vary across communities. For the affected filers in the top income bracket, only 15 zip code areas have greater than two percent average reduction in income, and the maximum average reduction is four percent. Again, this is evidence of the varied geographic impact the SALT deduction cap is likely to have on Illinois tax filers. While the majority of taxpayers are not affected by the new SALT deduction cap, those who are impacted are likely to be concentrated in a few zip code areas.


Author:
Yonghong Wu, PhD
Associate Professor of Public Administration
Government Finance Research Center
University of Illinois at Chicago

 

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The American Society for Public Administration is the largest and most prominent professional association for public administration. It is dedicated to advancing the art, science, teaching and practice of public and non-profit administration.

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