With loopholes, state protests tax law

One, which in effect converts local property taxes into charitable contributions, will most likely be questioned by the Internal Revenue Service. And the other — a complicated option to convert the state income tax to a payroll tax — may prove difficult to sell to businesses and employees. That plan would lower the gross salary for workers but seek to keep their net pay equal to what it was before the federal cap went into effect.

The Cuomo administration says it is ready for the fight. In discussing the budget agreement, Cuomo said Albany was pushing back against a federal government that was “actively hostile” toward New York.

“That is just a fact, it’s not a political statement,” Cuomo said. “We passed the first-in-the-country tax reform where we changed our tax code to actually avoid the penalty of the federal government.”

Cuomo, a Democrat, has used such language to describe the federal tax law since it passed last year. The cap on deductions of state and local taxes will hit especially hard in high-income, high-tax states like New York, New Jersey, Connecticut and California, places that, by coincidence or design, did not embrace President Donald Trump in the 2016 election.

Capping those deductions at $10,000 will certainly be felt in the metropolitan area, where property taxes of $20,000 to $30,000, on top of state income taxes, are not uncommon. New York and other states are considering litigation to fight the cap. And some others are exploring measures similar to those that passed in New York’s budget.

But by being first out of the gate, New York’s plan will be the test case.

Several states have considered allowing municipalities to form nonprofit organizations that property owners would make payments to in lieu of property taxes, and then claim the “donations” as charitable write-offs on their federal taxes. The IRS has not issued any formal guidance on those ideas, but Jared Walczak, a senior policy analyst at the Tax Foundation, said the New York law will push the issue, and he called the plan “legally fraught.”

“I think it’s quite possible that now that New York has adopted such legislation through the budget, and other states are considering it, that we may see IRS guidance clearly disallowing this,” Walczak said. “Existing case law already makes this plain, but states have muddied the water.”

Another part of the state’s plan — converting the income tax paid by wage earners to a payroll tax paid by companies that could then deduct that amount on their federal taxes — seems to be on firmer legal footing. But it may not make sense to companies that must implement it and the employees who must opt in. Walczak said he suspects that it will prove difficult to convince large workforces, some with negotiated contracts, to take a cut on gross pay, even with the promise that their net pay after taxes will increase.

“Those that would be most likely to take advantage of it are going to be small companies consisting of highly compensated employees,” he said. “So you might think of a hedge fund taking advantage of this, but not a larger corporation that has people across the wage scale.”

Kenneth J. Pokalsky, vice president of the state’s business council, said the plan gives employers “a lot to think about.”

“I don’t think it will be an easy decision,” he said. “We heard from a lot of our members in the runup to this. I haven’t really heard from any who said they thought they’d be likely to take advantage. But now that it’s law, we’ll see what the companies do.”

Carol Kellermann, president of the Citizens Budget Commission, a fiscal watchdog group, said the plans are worth trying.

“A lot of people are criticizing the provisions, saying they won’t work,” Kellermann said. “It’s worth trying. There’s no downside to creating the vehicles to try these out.”

Robert Mujica, the governor’s budget director, said the federal tax changes make New York less competitive and must be challenged.

“We did not choose to do this,” Mujica said. “The federal government did this to New York. We cannot sit by and do nothing because it is complicated and hard.”

This article originally appeared in The New York Times.

With loopholes, state protests tax law

Tax experts said two plans Gov. Andrew M. Cuomo pushed for in the budget face certain challenges.

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