PROVIDENCE, R.I. (WPRI) – As President Trump and Republican leaders in Congress turn their attention to tax reform, one idea they’re considering has the potential to increase Rhode Islanders’ taxes by hundreds of millions of dollars.
At issue is the federal income tax deduction for state and local taxes paid, which is available to those who itemize rather than take the standard deduction. Critics have long complained the 155-year-old policy helps wealthier taxpayers, subsidizes bigger government and disproportionately benefits higher-tax states.
Republicans in Washington have said they plan to turn to tax reform now that their proposed Obamacare replacement bill failed to pass, though no formal legislation has been brought forward. However, House Speaker Paul Ryan has proposed eliminating the state and local tax deduction in the past, and President Trump suggested capping it when he was a candidate.
“And then you know what, if you don’t like your state tax, go to Sacramento and go to Madison,” Ryan said in 2014. “Go complain to your governor or your state representative, but don’t make people from states that have got their fiscal house in order pay for the states that don’t. Why should Wisconsin pay for Illinois?”
Rhode Island officials say about 33% of state residents deduct state and local taxes paid on their tax returns, which led to a total reduction in their federal taxes of $322 million last year. Their tax bills would increase by an average of $1,880 if the deduction is eliminated, according to the state.
Massachusetts residents are major beneficiaries of the tax deduction.
Governors of blue states are already expressing alarm over the possible impact of eliminating the deduction, which has been proposed unsuccessfully before. David Ortiz, a spokesman for Gov. Gina Raimondo, said she disagrees with the idea.
“There’s a lot of uncertainty coming out of Washington, D.C. right now,” Ortiz said. “We will continue to work closely with Rhode Island’s congressional delegation to monitor the changing landscape, and Governor Raimondo will oppose any changes that negatively impact Rhode Island.”
Larry Wagner, a vice president at the bank Rockland Trust and a financial planner, said Rhode Island and Massachusetts would be among the states most affected by any change to the deduction to their above-average tax rates.
“Of course states have a good deal of control over their tax structure so our elected officials would serve us well to consider offsetting these potential costs of tax simplification by making the necessary changes in state and local taxes (lower rates) to prevent citizens from unnecessary tax increases,” Wagner said in an email.
“Those states that choose not to make adjustments can expect some higher-income residents to take steps that are in their best interest, such as relocating to more competitive locations,” he continued. “Needless to say, low- and no-income-tax states stand to benefit greatly if high-tax states do not make the necessary changes to stay competitive.”
Killing the deduction for state and local taxes altogether would mean a big boost for the federal government – the nonpartisan Tax Foundation estimates its elimination would yield $1.8 trillion in additional federal revenue over 10 years, which Congress could use to reduce other taxes as part of a broader reform deal.
The Hill, a Capitol Hill newspaper, reported Tuesday that seven groups representing state and local governments – including the National Governors Association and the U.S. Conference of Mayors – have sent a letter to lawmakers urging them not to touch the deduction for state and local taxes or the exemption for municipal bond income.
“These essential components of the tax code support vital investments in infrastructure, public safety and education, encourage economic growth and provide states and local governments with financial flexibility to meet our residents’ needs,” they argued.