The Lost Case for SALT: State and Local Tax Deduction

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In the October 30, 2017 article “The state and local tax deduction, explained” by Dylan Matthews at VOX, Matthews explains:

The state and local tax deduction (SALT for short) is the most significant tax break eliminated under the tax reform “framework” released by the administration and its allies in the House and Senate and expected to become an actual bill this week.

He later goes on to try and describe the case for and against keeping SALT. But in describing the pros and cons he missed the reason the state and local tax deduction was created.

Here’s his case against:

The case against SALT: it’s regressive and encourages itemizing

The case against SALT, usually made by conservative analysts but also appealing in part to intuitions about progressivity that many people share, is clear and straightforward:

  • It’s a regressive tax break at the federal level.
  • As a form of revenue-sharing, it disproportionately helps rich liberal states rather than targeting funds to poorer conservative states like Mississippi or West Virginia.
  • It reduces the tax base and requires higher federal income tax rates, hurting economic growth according to conservative economists.
  • Eliminating it would lead many fewer people to itemize taxes, reducing the harm done by other truly awful deductions, like the mortgage interest deduction.

Here’s his case for:

The case for SALT: it helps support state budgets

SALT’s defenders, in turn, argue:

  • Eliminating it without a real replacement like equalization payments would strain state budgets that rely on the subsidy.
  • Getting rid of it doesn’t enable less economic distortion through lower tax rates; it keeps income taxation roughly constant but shifts it from states to the federal government.
  • Getting rid of it to pay for tax cuts for rich people and corporations is, effectively, upward redistribution, even if on its own SALT is regressive.

Nowhere does he mention the reason the state and local tax deduction was created: to protect states’ rights.

Imagine that my state has a flat 50% income tax and the federal government also has a flat 50% income tax. I make $40,000. Without a SALT deduction that’s $20,000 for my state, $20,000 for the federal government, and $0 for me. Clearly, this will never work. I deserve to keep some of my income.

So the question is, who gets their tax first: the state or the federal government?

Giving an order to the taxes means that the first taxer would get $20,000 (50% of $40,000), the second taxer would get $10,000 (50% of the remaining $20,000), and I will get $10,000 (the remainder). With an order to percentage-based taxes, I will always get to keep some of my income.

It also means that I can’t go bankrupt because my state and federal government fail to coordinate and try to tax me for a total of more than 100% (say 50% state and 60% federal, so I owe 10% above and beyond of whatever I make).

Having the state deduction on the federal government return means that the state gets the tax first. This is from our history. We are “United States,” a nation comprised of a lot of smaller states competing for your citizenship, rather than just one big federal nation state like the other developed nations. The state taxes before the union.

As Jefferson said in the 1798 Kentucky Resolutions:

Resolved, that the several States composing the United States of America, are not united on the principle of unlimited submission to their general government; but that by compact under the style and title of a Constitution for the United States and of amendments thereto, they constituted a general government for special purposes, delegated to that government certain definite powers, reserving each State to itself, the residuary mass of right to their own self-government; and that whensoever the general government assumes undelegated powers, its acts are unauthoritative, void, and of no force: That to this compact each State acceded as a State, and is an integral party, its co-States forming, as to itself, the other party….each party has an equal right to judge for itself, as well of infractions as of the mode and measure of redress.

In other words, all the states are the true nations, but we unite together for a specific and limited purpose defined in the constitution.

That’s why I laughed out loud when I read that Matthews wrote, “Most other rich countries with federal systems, like Canada and Germany, don’t have a state or local tax deduction.” No, Matthews, they don’t.

Somewhere along the way, I think many Americans have lost sight of the fact that the United States is united states. They’ve lost sight of why it would be beneficial to be united states rather than just one nation state. They’ve lost sight of State’s Rights entirely.

Photo by Chris Lawton on Unsplash

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Megan Russell has worked with Marotta Wealth Management since 2005. She loves to find ways to make the complexities of financial planning accessible to everyone. Her most popular post: The Complete Guide to Your Washing Machine