Federal Tax Cuts Leave States in a Bind

Some state tax systems are linked more closely to the federal tax code than others. The difference lies in how states define income for the purposes of their tax calculations. Most states, including Maine and California, start with adjusted gross income, Line 37 on a standard 1040 form. Any federal provisions that get applied farther down the 1040 form — like itemized deductions — do not affect those states’ tax collections.

But a handful of states, including Minnesota, base their tax codes on federal taxable income, Line 43 on the 1040 form. And what goes on between those two lines is where most of the changes passed by Congress will be felt, resulting in a higher taxable income for many families. (A few states apply a hybrid of the two methods.)

Even in states that are less affected, failing to adapt their tax codes to the federal law could make it hard for residents to figure out what they owe — and, in some cases, force them to pay more. The longer states wait, the less time residents, businesses and state tax officials have to adapt to the new rules before next year’s filing season.

“Inaction becomes action this time,” said Richard C. Auxier, a research associate at the Tax Policy Center. “People’s taxes will change, states’ revenues will change.”

Several factors are complicating the issue for states. Congress passed its tax overhaul late in the year and with minimal debate, giving states relatively little time to assess the effects and plan a response. Even now, the full impact on state budgets is not clear, meaning legislatures are deciding how to take advantage of a revenue stream that could fall short of estimates. In addition, most of the changes to the individual tax code expire after several years, further muddling states’ plans.

Moreover, the tax debate is hitting as state budgets are strained by rising health care and pension costs, among other factors. Those strains could worsen in coming years if the federal government cuts back funding — perhaps because of deficits caused, in part, by the tax law itself.

And states, unlike the federal government, generally cannot plug budget holes by running deficits. That makes the unexpected revenue from the tax law a fiscal temptation.

Article source: https://www.nytimes.com/2018/05/12/business/economy/state-tax.html?partner=rss&emc=rss