It took the city of Pataskala, Ohio, nine ballot measures before its 15,000 residents agreed to a new 1 percent tax to pay for repairs to its crumbling roads and to buy new police cruisers. The mostly rural community was finally won over by a century-old hallmark of the tax code: The $5 million local levy could be deducted from their federal taxes.
“There is a severe sensitivity to more taxes here,” said James M. Nicholson, the city’s finance director. “At the end of the day, you get a tax break was the thing that convinced people.”
But now, in small towns and thriving cities, in Republican- and Democratic-leaning states, local leaders are warning that the $1.5 trillion tax legislation moving through Congress threatens to undermine their ability to raise money for government services, including police and schools. The Republican measures would eliminate or severely curtail taxpayers’ ability to lower their federal tax bill by deducting the cost of their state and local taxes. Without that offset, local leaders say, taxpayers will begin to seek relief closer to home, potentially making it more difficult to provide basic services.
The House passed a bill Thursday that would severely curtail the tax deduction, allowing people to deduct only up to $10,000 in property taxes from their federal returns, while the Senate is moving a bill forward that would eliminate it.
“I am hearing from our members across the country,” said Irma Esparza Diggs, director of federal advocacy for the National League of Cities. “It’s not just an inside-the-Beltway conversation.”
In Pataskala, Nicholson worries that weary residents might balk at future tax increases to pay for a backlog of infrastructure projects. Worse, exasperated residents might even call for a repeal of the 1 percent tax that local officials spent years putting in place.
“Hopefully, they will see the parks that are being maintained, we’re fully staffed in our police department,” Nicholson said. But eliminating the deduction “could open a can of worms” that could even make it difficult for the city to keep up with financial obligations, he added.
In San Diego, officials drawing up plans for a local tax increase to provide long-term housing to the homeless are also worried. In San Diego County, the elimination of what is commonly called the “SALT” deduction could affect about a third of households, said Greg Cox, a member of the board of supervisors. The average middle-income resident would lose a $16,000 deduction.
“It’s a big hit,” he said. The Republican tax plan is “going to make it very hard to pass any tax increases in the future.”
The fate of the tax deduction is among the thorniest issues facing Republican lawmakers who are rushing to vote on the $1.5 trillion tax bill this year. About 44 million Americans a year take advantage of the tax break to collectively save an estimated $60 billion.
But conservatives have long complained that the deduction is a windfall for high-tax, liberal-leaning states at the expense of low-tax, conservative-leaning states. According to the conservative Tax Foundation, taxpayers in six states — California, Illinois, New Jersey, New York, Pennsylvania and Texas — claim more than half of the dollar value of the deduction.
All of them except Texas are overwhelmingly represented by Democrats.
Republicans have repeatedly attempted to eliminate the provision, most recently in an effort led by President Ronald Reagan in 1986.
"We can't have the federal government continue to subsidize the states," Treasury Secretary Steven Mnuchin said in a CNBC interview last month. "That's a major loophole that we're trying to close in simplifying taxes."
Some lawmakers even in high-tax states echo that view.
"The question is: Should taxpayers in low-tax states be subsidizing the taxpayers in high-tax states?" Sen. Patrick J. Toomey (R-Pa.), a member of the tax-writing Senate Finance Committee, said this year. "It's not clear to me why that's good policy."
Nearly 30 percent of taxpayers in Pennsylvania use SALT, according to data from the Government Finance Officers Association. On average, those taxpayers claim an average deduction of $11,000.
Supporters of the deduction argue that its elimination will hurt middle-class families. Among taxpayers making more than $100,000, 81 percent claimed the SALT deduction. Without it, supporters say, taxpayers face double taxation — paying federal taxes on income already claimed by state and local taxes.
City leaders speaking out against eliminating the deduction are sometimes putting themselves at odds with their representatives in Congress.
Louisville Mayor Greg Fischer (D) visited Capitol Hill this week, including a stop by the offices of Senate Majority Leader Mitch McConnell (R-Ky.), a major proponent of the Senate bill.
“It’s a $1.3 billion problem for my city,” Fischer said of the potential elimination of SALT. “That is less than Los Angeles or New York, but that is going to hit a lot of folks.”
“I totally believe we need tax reform. I am a business person, entrepreneur. I am not a career politician,” he said, adding that he wants to make sure his local representatives understand what the city is facing.
Supporters of the deduction specifically point to the potential effect on schools, which typically rely on local property-tax revenue for funding.
The National Education Association estimates that $370 billion for public education would be at risk over the next decade under the Senate plan, and $250 billion under the House plan, assuming local tax rates were adjusted to reflect the loss of the deduction.
“When your state legislatures decide what they need to fund public schools, public libraries, roads, the fire department, they do the math,” said NEA President Lily Eskelsen García. “They say, ‘This is the burden on taxpayers, but they’ll be able to take a reasonable tax deduction on their federal, so it’ll wash out.’ ”
With those deductions gone, she added, “the pressure on states and locals now will be to reduce that tax pressure, because the federal government shifts it back.”
Republican supporters of eliminating the deduction say that those concerns are overblown. The GOP tax bills would raise the standard deduction most Americans take, making it less attractive for taxpayers to itemize their deductions to take advantage of provisions such as SALT.
Even in securely Republican states, such as Texas, the elimination of SALT has become a concern.
Conroe, 40 miles north of Houston, has grown rapidly in recent years. When Steve Williams, the assistant city administrator, began working there in 2005, it had about 35,000 residents. Now, he said, the city has more than doubled, to 83,000 residents, creating a boom in new home construction but also putting more demands on its police departments and schools.
“Our concern is that as the individual tax liability goes up, [residents] are going to pare back on support for school bonds” and other measures to fund local services,” Williams said. “As their tax burden on the federal level increases, they’re going to seek relief at the local level.”
It also could put a damper on the city’s housing market, he said. Much of Conroe’s services are funded by a 2 percent sales tax. A significant portion of that comes from taxing construction materials, he said. But homeownership could become less attractive if the property tax deduction is eliminated or limited, hampering the city’s finances, he said.
Local governments’ fears aren’t confined to the effects of removing the state and local tax deduction. Officials in the District and other cities also worry about the House plan to repeal a form of tax-exempt financing for development called private activity bonds.
Those bonds, which help lure private investors to low-income housing projects and other civic endeavors by effectively allowing them to borrow at municipalities’ low interest rates, have resulted in about 9,000 units of affordable housing in the District since 2010, city officials say. (The Senate bill would retain private activity bonds.)
“If it wasn’t for these private activity bonds,” Esparza Diggs said, “many [cities] wouldn’t be able to expand their airports, or meet their affordable housing needs.”