The U.S. Supreme Court on Monday declined to hear a constitutional challenge by New York, Maryland, New Jersey, and Connecticut to the 2017 Tax Cuts and Jobs Act’s (TCJA) $10,000 per filer cap on the State and Local Tax (SALT) deduction. The Supreme Court’s order, given as usual without comment, allows two lower court decisions that ruled the cap was constitutional to stand. The end of this case means the SALT battle will now return to the political arena, where Congress will have to decide whether the cap is extended or allowed to expire at the end of 2025.
High-tax states had grown used to pointing to the SALT deduction as a way of softening the blow of the high income tax rates they subject their higher-income residents to — meaning that the capping of the deduction represented a sudden dose of competition for states used to being insulated from the consequences of their aggressive tax policies. Displeased by this, the four aforementioned states filed suit against the federal government, arguing that the 16th Amendment requires the SALT deduction, and that the cap violates the 10th Amendment by coercing states out of their preferred tax policies. Unsurprisingly, neither argument fared well in court, with the states losing both at district court and in the Second Circuit.
The Second Circuit quickly dismissed the 16th Amendment argument by analyzing the text of the amendment and correctly concluding that no part of the amendment requires the federal government to offer a deduction for state and local taxes paid. The court also concluded that nothing in the history of the income tax requires the deduction because the SALT deduction has been tinkered with and altered for decades. Congress eliminated the SALT deduction for sales tax in the Tax Reform Act of 1986 as an example, and Congress also restricted the deduction significantly in 1964. The history and text of the 16th Amendment confirm that the state and local tax deduction is a legislative policy choice, not a constitutional mandate.
The states’ argument that the SALT cap “coerces” them into lowering tax rates did not stand up any better in court. After all, Maryland is the only state involved in the litigation that has cut taxes at all since the 2017 law was enacted, and Maryland’s gas and sales tax cut in 2022 was in response to concerns about rising inflation, not the SALT cap. The argument also had problematic logic, since it suggested that any federal deduction that was eliminated or capped, even in a package that cut taxes on the whole, would be coercive for “forcing” the state to rely on other revenue sources. The states’ argument could easily be applied to tax laws that affect home values and property tax collection, or reductions in business tax credits affecting other revenue sources. If this argument would have been successful in court, it would have severely hampered Congress’ abilities to pass tax cuts because it could not cap certain deductions to offset some of the tax cuts’ revenue loss.
Residents of New Jersey, New York, and Connecticut are certainly not feeling the benefits of any tax relief as residents in those states continue to be overtaxed and their economies suffer as a result.
It is true that the plaintiff states are facing outmigration and economic pressures, but these arise more from their own uncompetitiveness in several areas than the federal SALT cap. New York, for example, lost a net of 527,000 taxpayers and over $56.5 billion from its tax base from outward migration alone from 2010 to 2019, a trend that has likely only been exacerbated by the pandemic and the resulting increase in remote work arrangements. The state has stepped up its efforts to “keep” fleeing taxpayers through its “convenience of the employer” rule, which allows it to keep taxing previously New York-based employees who move elsewhere to work remotely.
Tax policy is about lawmakers making tradeoffs, and the lower courts recognized this important fact. Sometimes lawmakers may choose to cap deductions that impact higher-income citizens so they can reduce taxes for taxpayers more generally. Whatever one thinks of the policy merits of a $10,000-per-filer deduction for the 12 percent of taxpayers who still itemize, nothing about it is constitutionally mandated. While it is true that high taxes can harm competitiveness, New York should solve that problem in Albany not the federal courts. As for the SALT cap, the battle over it returns to the policy arena where it belongs. It is now up to lawmakers to decide whether to extend this deduction past its 2025 expiration date, as is their choice.