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Dear reader,
Persistence may be the single most important trait for those who get and stay rich in America.
Six years ago, a dramatic reshaping of US tax law meant that Americans were limited in the amount of federal deduction they could take for payments of separate state and local taxes. This was informally known as “Salt”.
The Salt deduction had previously been regarded as sacrosanct. It was of huge benefit to the doctor-and-lawyer class in California and the US northeast. These politically liberal regions are known for high local levies, even at the city level. Ostensibly, these are used to fund generous social services (it is noteworthy that New York City has recently decided to implement stark budget cuts notwithstanding its own significant tax rates). President Donald Trump’s 2017 Tax Cuts and Jobs Act put a $10,000 limitation on the deduction. It was seen by some as the Trump administration’s punishment for blue-state liberal regions that did not support him.
In the years since its enactment, a few members of Congress from both parties have attempted to generate momentum to repeal the Salt limitation. These efforts — which, if successful, would benefit only a fraction of taxpayers — became more apparent this year in the circus to select a new Republican House Speaker. In a closely divided Congress, a handful of votes created leverage. Taxpayers who were politically active and persistent in pressing their representatives saw their chance.
Imagine a simplified example of a household with $1mn of taxable income and a 10 per cent blended city and state tax rate (plausible though light by New York and California standards). At $100,000, Salt could be worth a federal tax shield of $30,000 to $40,000.
The Salt deduction is worth the most in places where both incomes and Salt tax rates are high to maximise the tax shield value. This map, recently prepared by the Tax Foundation think-tank and based on Internal Revenue Service data, shows the average level of 2020 Salt by US county.
As part of the 2017 tax reform, the US government also doubled the size of the so-called “standard deduction” to $12,000 and $24,000, for single people and married couples respectively. The limitation on Salt and the increase in the standard deduction was designed to limit the number of taxpayers “itemising” their tax deductions and instead taking the default action, creating a base of income that was free of tax.
The Tax Foundation also shared 2020 IRS data on US counties for those tax filers affluent enough to still have enough in deductions to continue itemising. This data shows how much the Salt cap increases federal tax bills on average for individual filers. The difference between the Salt reported here and $10,000 multiplied by the federal tax rate implies the incremental tax owed.
Salt cap critics naturally forget at least one important part of the 2017 law: federal marginal tax rates were cut. For example, the highest marginal tax was reduced from 39.6 per cent to 37 per cent. If taxable income increased because of the Salt cap, federal tax was at least partially mitigated.
Economists tend to like tax regimes where overall rates are lowered but apply to a wider base of income and activity in order to minimise behavioural distortions. Just as the tax deductibility of interest expense increases financial leverage, the Salt deduction is thought to have encouraged higher state and local spending partially subsidised by US taxpayers elsewhere.
The $10,000 Salt cap is not intended to be permanent. Like other features of the TCJA, it is set to expire in 2025. Lobbying to cancel the cap a few months earlier seems gratuitous. But then patience has never been a virtue that the rich can lay claim to.
Other stuff I enjoyed this week
This is a great profile of Kneeland Youngblood, founding partner of private equity firm Pharos Capital Group, who is pursuing a $900mn oil claim on land acquired by his ancestors when they were freed from slavery.
Enjoy the rest of your week,
Sujeet Indap
Wall Street editor
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