The Hidden Tax Increase for Working Families in the GOP Tax Bill

Saqib Bhatti

As a result of this bill becoming law, and the SALT deduction being eliminated, working families stand to see their federal taxes increase. (Photo By Tom Williams/CQ Roll Call)

The cur­rent tax debate in Con­gress is fun­da­men­tal­ly a fight over whether most of us will sac­ri­fice to pay for tax cuts for the wealthy and cor­po­ra­tions. The Repub­li­can tax bill that has already passed both hous­es of Con­gress and is now in con­fer­ence com­mit­tee is the lat­est man­i­fes­ta­tion of a long-term con­ser­v­a­tive goal to enact so called tax reforms” that will fur­ther redis­trib­ute wealth upward.

One of the many ways the bill does this is by elim­i­nat­ing state and local tax (SALT) deduc­tions. Not only will this change amount to a regres­sive redis­tri­b­u­tion of wealth — since it would effec­tive­ly take mon­ey from all of us and give it to a small group of rich peo­ple — it will also be a hand­out to big banks and wealthy bondholders.

Because elim­i­nat­ing the SALT deduc­tion at the fed­er­al lev­el will raise tax­es on work­ing fam­i­lies, it will make it hard­er for state and local gov­ern­ments to main­tain their cur­rent tax rates. This will lead to declin­ing tax rev­enues at the state and local lev­els, and like­ly force pub­lic offi­cials to bor­row mon­ey to fill bud­get short­falls. As a result, Wall Street banks and law firms will be able to col­lect mas­sive fees and bond­hold­ers will be able to take in bil­lions in inter­est pay­ments while cities and states cut vital ser­vices and become mired deep­er in debt.

Cur­rent­ly, fam­i­lies can deduct the income, sales and prop­er­ty tax­es they pay to state and local gov­ern­ments from their fed­er­al tax­es, mean­ing they don’t have to pay fed­er­al tax­es on the income they use to pay state and local tax­es. The SALT deduc­tion is intend­ed as a sub­sidy for state and local gov­ern­ments since it helps reduce oppo­si­tion to state and local tax­es by mak­ing them less cost­ly to taxpayers.

The Repub­li­can tax bill pro­pos­es to elim­i­nate the fed­er­al tax deduc­tion for state and local income and sales tax­es and to lim­it the deduc­tion for prop­er­ty tax­es. The bill exempts most busi­ness­es from this change, which means they will con­tin­ue to be able to use the SALT deduction.

As a result of this bill becom­ing law, and the SALT deduc­tion being elim­i­nat­ed, work­ing fam­i­lies stand to see their fed­er­al tax­es increase. Accord­ing to a report by the Gov­ern­ment Finance Offi­cers Asso­ci­a­tion, in 2015, tax­pay­ers deduct­ed $552 bil­lion in state and local tax­es. If this deduc­tion had not exist­ed, the addi­tion­al tax bur­den would have been an esti­mat­ed $167 billion.

If fed­er­al tax­es were to sud­den­ly spike by $167 bil­lion, state and local gov­ern­ments would have a choice to make: They could either let tax­pay­ers absorb the addi­tion­al expense, poten­tial­ly caus­ing a polit­i­cal back­lash, or they could low­er tax rates to off­set the increased expense for tax­pay­ers. Low­er­ing state and local tax rates would force pub­lic offi­cials to either cut pub­lic ser­vices in order to make up for the lost rev­enue or increase bor­row­ing in the form of bonds. 

Bor­row­ing to close bud­get gaps is par­tic­u­lar­ly prob­lem­at­ic because it cre­ates even more oppor­tu­ni­ties for the upward redis­tri­b­u­tion of wealth by forc­ing tax­pay­ers to pay issuance fees and inter­est on the bonds. Issuance fees are the costs that cities and states pay to the finan­cial and legal firms involved in the process of issu­ing a bond.

For exam­ple, a 2015 study by the Haas Insti­tute for a Fair and Inclu­sive Soci­ety at UC Berke­ley and the ReFund Amer­i­ca Project (of which I am the direc­tor) looked at issuance fees for 812 bond issuances from around the coun­try. The study found that the weight­ed aver­age for issuance fees in the sam­ple was 1.02% of the ini­tial bond prin­ci­pal. Based on these find­ings, if state and local gov­ern­ments decid­ed to bor­row the entire $167 bil­lion to off­set the impact of elim­i­nat­ing the SALT deduc­tion, they would like­ly pay $1.7 bil­lion in issuance fees to the banks that under­write the bonds, along with the oth­er finan­cial and legal firms involved. That is anoth­er $1.7 bil­lion local gov­ern­ments will not be able to spend on pub­lic ser­vices like edu­ca­tion and healthcare.

And the issuance fees are just the tip of the ice­berg. On a con­ven­tion­al 30-year, fixed-inter­est rate bond, the inter­est pay­ments over the life of the bond are rough­ly equal to the orig­i­nal prin­ci­pal. So if state and local gov­ern­ments bor­row $167 bil­lion, they will like­ly have to pay anoth­er $167 bil­lion in inter­est to bond­hold­ers. This addi­tion­al $167 bil­lion would sim­i­lar­ly come at the expense of pub­lic services.

Because most munic­i­pal bonds offer rel­a­tive­ly mod­est returns but are exempt from fed­er­al tax­es, the bond­hold­ers that invest in them are often wealthy indi­vid­u­als whose main inter­est is to use such bonds as a tax shel­ter. If state and local gov­ern­ments were forced to take out $167 bil­lion in addi­tion­al debt, much of the inter­est from those bonds would go to these rich investors.

In real­i­ty, it is unlike­ly that the addi­tion­al tax bur­den from elim­i­nat­ing the SALT deduc­tion would have a one-to-one cor­re­la­tion with increased state and local gov­ern­ment bor­row­ing. If the SALT deduc­tion is elim­i­nat­ed and fed­er­al tax­es shoot up by $167 bil­lion, state and local gov­ern­ments will like­ly bor­row only a por­tion of that amount to off­set the cost for tax­pay­ers. The rest would like­ly come from spend­ing cuts and the push­ing of costs on to work­ing families.

How­ev­er, we can expect that local gov­ern­ments will be forced to bor­row tens of bil­lions of dol­lars, which would result in a wind­fall for the Wall Street banks, law firms and wealthy bond­hold­ers who stand to col­lect tens of bil­lions of dol­lars in issuance fees and inter­est payments.

Not coin­ci­den­tal­ly, the exec­u­tives of these finan­cial and legal firms — and the wealthy indi­vid­u­als who invest in munic­i­pal bonds — are some of the same peo­ple who will be the prime ben­e­fi­cia­ries of the Repub­li­can tax bill. Elim­i­nat­ing the SALT deduc­tion is just anoth­er way the GOP tax bill will take from poor and work­ing peo­ple to fur­ther enrich the wealthy and powerful. 

Saqib Bhat­ti is the Co-Exec­u­tive Direc­tor of the Action Cen­ter on Race & The Econ­o­my and the Direc­tor of the ReFund Amer­i­ca Project.
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