The Supreme Court has declined to review a multi-state coalition’s petition that the $10,000 state and local tax deduction cap is unconstitutional, leaving state and local governments with only a legislative solution to restore what they view as their fiscal sovereignty.
The coalition led by New York, Connecticut, Maryland and New Jersey was struck down by a 2nd Circuit Court of Appeals’ ruling, rejecting the states’ claim that the cap unconstitutionally coerces states into abandoning their own fiscal policies. The high court's refusal to hear the case leaves the circuit court's ruling in place.
The issue still has a chance of being resolved in Congress, such as in
“Your ability to borrow is somewhat of a function of your ability to earn or collect revenue and this makes it a little bit harder for some states to collect revenue,” said Rich Moore, a tax partner at Orrick. “Some issuers do rely on tax revenue,” he added. “For them, it might have an indirect impact for issuers of revenue bonds and things like that.”
The $10,000 cap became law as part of President Trump’s Tax Cuts and Jobs Act of 2017, which has laid the groundwork for Democratic politicians, whose higher tax states are more impacted by the cap, to make it a central issue of their rhetoric.
“It's going to be more difficult for states to increase revenue by increasing taxes,” Moore said. “It used to be that for every dollar of tax increase at the state level, the net effect to the taxpayers was something less than that because of the federal tax deduction,” he added. “That's just not the case anymore.”
“Especially to the extent that voter approval is required to increase taxes, taxpayers will be more and more reluctant to approve it,” Moore said.
But this is by no means a shock to the states and local governments that do rely heavily on revenue, as Supreme Court challenges of the sort aren’t typically relied on.
“I don't think anyone should be surprised at this outcome,” Moore said. “When you're going to the Supreme Court, it's always a long shot,” he added. “I think it's gonna be resolved in Congress, not through the courts.”
But the Supreme Court decision is being positioned by Democratic rivals as a massive failure.
“NY AG Letitia James and others pursued a clearly meritless challenge to the cap on federal income tax deduction for state and local taxes," Jonathan Turley, Shapiro Chair of Public Interest Law at George Washington University said on Twitter.
"They lost on the district court level, the appellate level, and now were denied review by the Supreme Court."
“The multi-state lawsuit challenging federal constitutionality of SALT deduction cap was a pure stunt,” said E.J. McMahon, founding senior fellow at the Empire Center and adjunct fellow at the Manhattan Institute.
He argued that for those in New York State, top-earners are already able to deduct some of their state and local tax revenue through a pass-through entity tax.
“Impact of SALT cap will be offset for those NY top earners pulling all or most income through ‘pass-through entities’, under a work-around approved in 11/2020 by IRS (controlled by Trump’s Treasury Dept) and enacted in Cuomo’s last budget,” McMahon said on Twitter.
Democrats are still positioning this fight, which former New York Gov. Andrew Cuomo had a large hand in, as a loss for middle-class earners. Conservative commentators claim it only affects the highest earners.
“The SALT cap is an unfair attack on New Yorkers by former President Trump & the GOP,” said New York Gov. Kathy Hochul. “I am disappointed in the Supreme Court’s decision but I will never stop fighting for New York families. I urge leaders in Congress to take immediate action to restore the full SALT deduction.”
But expanding the SALT cap isn’t the only direction this can go from here. With record levels of inflation, some are hoping to index the $10,000 cap so that in years like this, it can accurately reflect the right dollar amounts.
“Another thing people are talking about right now is indexing into inflation.” Moore said. “The $10,000 which started on January 1, 2018, in present day dollars is now worth something like $8,500,” he added. “There is some hope in repealing it, but also some hope in increasing it, indexing it."
