[Mb-civic] Proposal Would Hit Blue State Taxpayers

[Michael Butler]

http://www.latimes.com/news/nationworld/nation/la-na-tax5dec05.story

THE NATION

Proposal Would Hit Blue State Taxpayers

Some conservatives want to kill the U.S. deduction for state and local
taxes. Californians and New Yorkers would feel the strongest sting.
 By Warren Vieth
 Times Staff Writer

 December 5, 2004

 WASHINGTON ‹ As President Bush lays the groundwork for a possible overhaul
of the U.S. tax code, one option under consideration would deal its biggest
financial blow to citizens of blue states such as California and New York.

 Some conservative activists are urging the Bush administration to scrap the
federal deduction for state and local taxes as part of a broader plan to
revamp the nation's tax system.

 Although the proposal would hurt some taxpayers in nearly every state, it
would hit hardest in states with higher-than-average income levels and
bigger-than-average state and local tax burdens. High on the list are a
number of blue states ‹ those that were carried by Democrat Sen. John F.
Kerry in last month's presidential election.

 Taxpayers in California and New York, for example, which have top state
income tax rates of 9.3% and 6.5% respectively, would be highly affected;
residents of Florida and Texas, which have no state income taxes, much less
so.

 "There's no question this effort would punish blue states," said Rep.
Robert T. Matsui (D-Sacramento), a member of the tax-writing House Ways and
Means Committee. Over time, he said, it could force state and local
governments to cut expenditures.

 That could happen if taxpayers, stung by the higher tax burden that would
come from losing the deduction for state and local tax payments, demand a
cut in local and state tax rates and become unwilling to approve any
increases.

 Supporters of the change insist the disproportionate effect on blue states
is a coincidence, but they acknowledge that the proposal could hurt most in
states that voted against Bush.

 "Let me put it like this: It certainly isn't something that's a
discouragement," said one prominent conservative. "Yes, we talked about
this. The fact that it hits blue states is not something that's been missed
among Republicans."

 But in a political complication, some blue states that would be hit hardest
by the tax change are led by Republicans. If the White House adopts the
proposal, it could create a rift with some of the GOP's biggest stars in
those states, such as Gov. Arnold Schwarzenegger and New York Gov. George E.
Pataki, among others.

 Schwarzenegger's office declined to comment on the proposal. But California
State Controller Steve Westly, a Democrat, said it would amount to a hidden
tax increase for millions of California taxpayers, who already pay $58
billion a year more to the federal government than they get back in
services.

 "Simply put, it would be yet another poke in the eye from the federal
government to California," said Westly.

 It remains unclear whether the administration will adopt the proposal. Some
administration and congressional advisors said they believed the idea had
been floated as a trial balloon to see how much support or opposition it
attracted.

 If the administration did move to eliminate the deduction, it might
partially offset the costs to blue state residents by adding other elements
to the tax package, such as a reduction of top tax rates or a repeal of the
increasingly broad Alternative Minimum Tax, which also hits blue states
hard.

 Bush has said one of his top second-term priorities is to revamp the tax
code so that it is simpler, fairer and more pro-growth. He also has said he
would be guided by the recommendations of a bipartisan commission he planned
to appoint by the end of the year.

 White House and Treasury officials say all overhaul options are on the
table. "The president has yet to even name the advisory panel, so we're not
going to rule things in or out at this point," said White House spokeswoman
Claire Buchan.

 Bush has hinted strongly that his proposal would preserve two popular tax
breaks: the deductions for mortgage interest and charitable contributions.
That he has not mentioned preserving the state and local tax deduction has
been interpreted by some as a signal that it is fair game as the
administration looks for ways to finance other tax changes.

 "This is very real," said one congressional staffer close to the tax
discussion. "They need the money desperatelyŠ. It's one of the only things
they can attempt to do to finance tax reform."

 The deduction for state and local taxes is one of the biggest tax breaks
claimed by households. This year, the deduction is valued at $46 billion.
That compares with $70 billion for the mortgage interest deduction and $30
billion for charitable contribution deductions, according to the Office of
Management and Budget.

 "The people who are going to be disproportionately penalized by this are
high-income households, especially those in states with relatively high or
progressive income taxes," said Kim Rueben, a research fellow at the Public
Policy Institute of California.

 Last year, 5.5 million California households, or 37% of all tax filers in
the state, claimed deductions for state and local income taxes. In New York,
3.2 million households, or 37%, did.

 Supporters of the deduction say people should not be required to pay a
federal tax on taxes paid to state and local governments. The
counterargument is that income used to pay for state and local government
services is no different than income used to acquire anything else, and
should be taxed the same.

 In addition, some overhaul advocates say citizens in low tax states end up
unfairly subsidizing services in high tax states because of revenue lost to
the deduction.

 Scrapping the deduction would provide a financial windfall that could pay
for other tax cuts and proposals sought by the administration. Near the top
of the list would be the elimination, or a scaling back, of the Alternative
Minimum Tax, according to overhaul advocates.

 The AMT was created in 1969 to make sure wealthy Americans could not avoid
taxation because they were able to claim big deductions. But the AMT is not
indexed for inflation, and more and more middle-class Americans are falling
within its grasp. About 2% of tax filers were subject to the AMT in 2001;
the figure is expected to rise to 20% by 2010.

 Len Burman, codirector of the nonpartisan Tax Policy Center, estimates that
eliminating the state and local tax deduction would generate enough
additional revenue over 10 years to pay for repeal of the AMT and finance
$335 billion in additional tax cuts or deficit reduction.

 Tax attorney Pamela F. Olson, who was assistant Treasury secretary for tax
policy before leaving the administration this year, said the political
appeal of slaying or taming the AMT might help overcome opposition to
removing the deduction for state and local taxes.

 "If you're going to try to fix the AMT, you're going to have to do
something with the state and local tax deduction if you don't want a big
revenue loss," said economist Kevin A. Hassett at the conservative American
Enterprise Institute. "If you do nothing, if you just sit back and have
gridlock, then those states are really going to get hammered, because
everybody in New York will be on the AMT sooner than people from Wyoming."

 This would not be the first attempt to get rid of the state and local tax
deduction. It was targeted for elimination nearly two decades ago as part of
a sweeping Reagan administration tax overhaul enacted in 1986.

 But the tax break was spared following a lobbying campaign by officials
from New York and other high tax states.

 "Mario Cuomo practically lived in Washington for a couple of months
fighting to keep that deduction," economist Bruce Bartlett, a former
Treasury Department official, said of the then-governor of New York.
"Eventually the Reagan people backed down. It's pretty tough to do. It's one
of the biggest deductions most people have on their tax returns."

 Economist Max B. Sawicky at the liberal Economic Policy Institute said the
deduction allowed states to have higher income taxes and offer more state
services. If the federal tax break were eliminated, he said, it would create
political pressure to reduce state taxes.

 "What do you do in California, where you have that absurd budget deficit?
It becomes quite a problem for Gov. Schwarzenegger, who was important in
getting the president reelected," Sawicky said. "Gov. Pataki, too. It puts
them in a bit of a bind." In Sacramento, Schwarzenegger spokeswoman Ashley
Snee declined to comment on the possibility the deduction could be targeted
for elimination.

 "If the administration puts forth a tax reform proposal, we will take a
look at it to determine its impact on California," Snee said. "But we
haven't taken a position on this idea at this point."

 *

 (BEGIN TEXT OF INFOBOX)

 A valued deduction

 A proposal to eliminate the deduction for local and state taxes on federal
tax returns would affect blue states more than it would red states. In 2002,
two-thirds of the $184 billion claimed under the deduction was in states
carried by Sen. John F. Kerry. About a third of the total was in just two
states, New York and California.

 Bush states

 Ohio: $8,994

 North Carolina: 6,163

 Virginia: 5,991

 Georgia: 5,706

 Indiana: 3,129

 Missouri: 3,115

 Colorado: 2,975

 Kentucky: 2,558

 Arizona: 2,414

 South Carolina: 2,332

 Oklahoma: 1,787

 Oklahoma: 1,787

 Iowa: 1,627

 Alabama : 1,608

 Kansas: 1,545

 Utah: 1,445

 Florida*: 1,190

 Louisiana: 1,116

 Arkansas: 1,100

 Nebraska: 948

 New Mexico: 836

 Idaho: 744

 Mississippi: 736

 West Virginia: 595

 Montana: 474

 Texas*: 513

 Tennessee**: 256

 Nevada*: 247

 North Dakota: 127

 Wyoming*: 47

 South Dakota*: 28

 Alaska*: 14

 **

 Kerry states

 California: $35,434

 New York: 24,744

 New Jersey: 8,609

 Maryland: 7,244

 Pennsylvania: 6,803

 Massachusetts: 6,442

 Illinois: 5,868

 Michigan : 5,775

 Minnesota: 4,889

 Wisconsin: 4,483

 Connecticut: 4,193

 Oregon: 3,311

 Maine: 892

 Hawaii : 869

 District of Columbia: 868

 Rhode Island : 833

 Vermont : 348

 Delaware: 589

 New Hampshire** : 345

 Washington*: 344

 **

 Blue, red division

 How state and local tax deductions divide among Bush and Kerry states:

 Bush 33%

 Kerry 67%

 (Amounts claimed under the deduction in hundreds of thousands rounded:)

 * No state income tax

 ** State income taxes are limited to dividend and interest income only.

 Source: Internal Revenue Service


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