No one thought tax reform would be easy. It was to be expected that as soon as a plan with any level of detail was announced, the special interests would line up to ensure that their carveouts were preserved. Since simplifying the tax code and eliminating loopholes are key objectives of reform, tax writers need to resist this pressure if there is any hope at all for a plan to make it through Congress. How they handle the misguided effort to preserve the state and local tax (SALT) deduction will likely demonstrate whether sufficient political courage exists to make tax reform a success.
To satisfy the requirements of budgetary rules, Congress needs to close enough loopholes (“base broadening” in Washington-speak) to at least partially offset proposed rate cuts. Without these offsets it will be impossible to pass tax reform through reconciliation, the process that will allow the Senate to bypass a certain Democratic filibuster and pass a tax reform package with just 50 votes (presuming support from V.P. Pence as the tie-breaker).
But it’s not just about the numbers. It is long past time to simplify the tax code. Not only does its excessive complexity impose high compliance costs on taxpayers, but the perception of widespread gaming of the system erodes public confidence in democratic political processes.
As the name implies, the SALT deduction allows some filers to reduce their federally taxable income based on taxes paid to their state or local governments. It benefits primarily wealthy taxpayers in high-tax states such as California, New York, and Illinois.
Aside from its narrow benefit to a select group of high-income taxpayers, what makes the deduction particularly troublesome is its perverse incentives.
State governments are partially kept in check by the ability of taxpayers to move to other states should tax burdens become excessive. Therefore, we see migration from high-tax states like California and New York to those with more reasonable tax burdens like Florida and Nevada. This tax competition partially combats the endless desire of politicians to tax and spend.
The SALT deduction undermines tax competition by effectively exporting part of their tax burden onto other parts of the country, which explains why over 100 state legislators from 34 states signed a letter calling for its elimination. The result is that states tax and spend more than they otherwise would.
Ending a distortionary loophole that encourages excessive growth of government and overwhelmingly benefits the wealthy is both good policy and good politics, which is why the wavering of some Republicans on the issue is incredibly distressing.
States with the most taxpayers who benefit from SALT are primarily run by Democrats. And they like its incentives to grow government. It’s thus little surprise that they oppose the change.
It should be easy for Republicans to hammer Democrats as hypocrites given their usual reliance on tax warfare to oppose all attempts at fixing the tax code or providing much needed relief to taxpayers. But with the SALT deduction, they are fighting to preserve a benefit for the wealthiest just so that blue states can continue to overtax.
Unfortunately, some Republicans find it impossible to get out of their own way. Rather than embrace an easy opportunity to do the right thing, Republican representatives from blue states are siding with Democrats to preserve the SALT deduction. While this might seem the politically prudent choice given their constituencies, by threatening the viability of tax reform they are serving only the interests of opposition Democrats.
There’s really no excuse for Republicans to let this issue divide them. For the relatively fewer low- and middle-income earners who itemize and make use of the deduction, the rest of the tax reform plan with its lower rates will more than make up for losing it. For the wealthiest, it’s high time that they bear the full cost for choosing to live in high-tax states and voting for politicians who do nothing but tax and spend. If Republicans can’t even agree on that then there’s little hope for closing any other loopholes, leaving their “tax reform” largely absent of any real reforms.
Views expressed in op-eds are not the views of The Daily Caller.