Repealing the Republicans’ Attack on State and Local Taxes Is Good Politics and Progressive Policy

Posted in: Tax and Economics

Senator Joe Manchin betrayed his own stated principles, to say nothing of stabbing his president and his Democratic colleagues in the collective back, this past weekend. The millions of Americans who would have benefited even from the shrunken version of the Build Back Better bill that Manchin had forced upon his party will now suffer. Even so, there is still some chance that various parts of that bill could become law.

I do not in any way intend to skip over or downplay what an insane turn of events this is. If Manchin’s concerns about the bill had been honest, all of them—most definitely including his worries about the size of the bill and its economic benefits—were easily answered. They were, in fact, easy to answer months ago, allowing fair observers only one reasonable conclusion: Manchin has been dishonest all along, offering nothing more than what I dubbed “argument by cliché.”

Because I am emphatically and repeatedly on the record as saying that democracy in the United States will all but certainly die within the next three years, however, Manchin’s much greater sin is in his repeated refusal to use every possible tool that could save our constitutional system and prove my prediction wrong. Instead, the West Virginia plutocrat, along with his oddball partner Kyrsten Sinema (D-AZ), insists that the only way to counter the anti-democracy bills that Republicans have been passing on a purely partisan basis in states across the country is to find 10 Senate Republicans who are willing on a bipartisan basis to undo their own party’s dirty work.

In short, things look worse than they ever have. Even so, as I noted above, some parts of Build Back Better might yet pass. And even though Republicans, after they have established their one-party sham of a democracy, will undo almost all of it and more, it is still interesting to think about some of the policy arguments that have been made against one element of the bill: the repeal of the provision in the Republicans’ highly regressive 2017 tax bill that severely limited the deduction for state and local tax payments—the so-called SALT deduction.

I can already hear readers clicking to other articles. Wait, this is about taxes?! I saw the t-word in the title of the column, but I guess he really means it. Later, dude! For those who are still with me, however, my reason for focusing on this relatively minor provision is that it is the rare policy dispute in which large numbers of centrists, liberals, and progressives have come out very much on the wrong side of the argument.

There is, in fact, a very good constitutional reason that the SALT deduction should be reinstated in full (or at least, as in BBB, significantly expanded). Moreover, there is an equally strong economic policy justification for doing so. Added together, these arguments show that the Democrats were smart to include that provision in Build Back Better, and they should do so again in whatever bill that they now cobble together.

The State-and-Local Tax Deduction and the Culture Wars

One corollary of the both-sides-must-always-be-presumed-to-have-a-valid-point mindset of American media coverage and punditry is the idea that even people who identify themselves as liberals or progressives must always look for opportunities to tut-tut their compatriots: “Well, I usually side with Democrats; but this is where I get off the bus.”

With an army of political junkies (only on the left) thus constantly on the lookout for something—anything—to prove that they are not extremists or blind ideologues, any policy offered by Democrats from which pundits can distance themselves is like manna from heaven. And when the policy in question looks like it might actually be perversely conservative in its impact, we have a classic two-fer: the pundits can declare independence from the Democratic Party line while excoriating their erstwhile friends for favoring policies that supposedly help the wealthy.

The SALT deduction fits the bill perfectly. Until the Republicans’ 2017 tax bill was enacted into law on a purely party-line vote (with even supposedly independent-minded senators like the late John McCain voting yes on a bill that had not even been put through normal policy channels), taxpayers who itemized their deductions could reduce their federal taxable income by the full amount of the taxes that they paid to their state and city governments.

This meant, for example, that a person who was in the federal 35 percent marginal tax bracket who paid $20,000 per year in sub-federal taxes could deduct that amount, reducing their federal income tax bill by $7,000 (35 percent of $20,000). When the 2017 bill put a $10,000 cap on that deduction, it meant that the taxpayer in question ended up paying $3,500 more in federal taxes than before, because she lost half of the SALT deduction from which she previously benefited. People who paid still higher sub-federal taxes lost even more.

Capping SALT was, in other words, a tax increase. Republicans are not known for favoring higher taxes, but they added this to their 2017 bill because doing so allowed them to reduce other taxes that they hated even more—taxes paid by the very, very rich. The net effect was regressive, shifting the overall burden onto the somewhat comfortable to spare the obscenely rich.

Even so, the Democrats’ plan to increase the SALT deduction appears on the surface to be a regressive tax cut, at least in isolation. Why? Because only upper-middle-class and rich taxpayers pay enough in sub-federal taxes for the deduction to be useful to them. The people who would benefit from returning to the status quo ante, therefore, are people with at least six-figure incomes, and most of the benefit would thus seem to be a classic regressive tax change.

How could Democrats be in favor of that? The non-Republican crowd that wants to prove how reasonable they are started to clutch their pearls and say that the so-called party of common folk absolutely could not be seen favoring a tax provision that might help some relatively well-off people. No. Matter. What.

Several non-Republican columnists who write for The Washington Post have gotten in on the fun. From the left-center, Catherine Rampell has railed again and again against repealing the Republicans’ limitation on the SALT deduction. Rampell is the ultimate neoliberal, and she thus framed her opposition as hardheaded realism, scolding Democrats by claiming that they were wasting money on regressive tax cuts that should be spent more wisely.

Centrist and former Republican NeverTrumper Jennifer Rubin recently jumped on the bandwagon as well, quoting a source from a solidly liberal think-tank:

The reconciliation package itself contains a massive tax break for wealthy Americans in high-tax states by raising the cap for state and local taxes (SALT) to $80,000. Doing that while simultaneously yanking away child tax credits for some of the poorest kids would be politically indefensible and morally unconscionable. As Chuck Marr from the Center on Budget and Policy Priorities explained: “There’s no way to justify these [SALT] tax cuts as ‘middle-class’ tax relief.”

No one is in fact calling the SALT provision middle-class tax relief, but never mind.

And this is not limited to people with only grudgingly non-conservative economic policy views. Another Post columnist, the usually progressive James Downie, argued that the death of the Build Back Better bill was not entirely Joe Manchin’s fault. Although that is true, Downie included on his list of people to share some blame the “House holdouts such as Rep. Josh Gottheimer (D-N.J.)[, who] delayed the bill to reinstate the state and local tax deductions for wealthy constituents.” Even the editor of the very liberal magazine The New Republic asserted in a memo to subscribers that restoring the SALT deduction was the one thing that he could not defend in Build Back Better.

With all due respect, this is superficial nonsense.

The Legal and Economic Cases for Restoring the SALT Deduction

As I noted above, there are both legal and economic arguments in favor of the SALT deduction. Each argument alone is enough to justify the deduction, and together they add up to a compelling case for doing exactly what the Democrats tried to do.

Both arguments flow from the fact that limiting the SALT deduction did not increase taxes on all upper-middle-class and rich people. As Rubin’s quote above indicates, the wealthy (and wealthy-adjacent) people who were being forced to pay higher federal taxes reside only in the states that have the highest tax rates, which means places like Maryland, New York, California, and so on.

The legal argument might be familiar to some readers of this site. My Verdict colleague Michael Dorf argued when the 2017 bill was being rammed through a Republican-controlled Congress that limiting the SALT deduction was constitutionally problematic, at best. Why? Because Republicans had quite explicitly done so to punish what we now call blue states. Even though that was probably a non-justiciable question in federal courts, Professor Dorf offered two constitutional arguments (based on the First Amendment and equal state sovereignty principles) that were independently sufficient to justify nullifying the Republicans’ SALT deduction limitation.

What do we do when the courts cannot (or will not) stand against a constitutional violation? We must use the other branches of government to make things right. It is simply wrong to say: “Republicans unconstitutionally targeted Democratic-controlled states by limiting SALT, but now that we have the power to legislate, we’re going to leave that constitutionally invalid provision in place—because we want to show that we’re progressive.”

As I have argued in the past, sometimes it is necessary to adopt a tax provision that might be regressive simply because there are other values at stake. (As I argue below, however, this specific policy change is not even regressive, properly understood.) Policy making involves trading off goals and weighing values, and I have no problem saying that Democrats should put great weight on the opportunity to undo unconstitutional provisions—especially those that were designed by Republicans as political hit jobs in the first place. Democrats need not feel compelled to apologize for that.

The economic argument in favor of the SALT deduction also flows from the Republicans’ political targeting of blue states. Democratic-leaning states do not collect higher taxes for their own sake. They collect them as part of a redistributive plan to mitigate inequality in their states. Richer people in blue states pay more in taxes, and poorer people in those states receive more benefits. Much more should be done, but in their basic structures, this is what the targeted states all attempt to achieve with their fiscal policies.

Republicans, of course, hate this. States like Texas and Florida not only collect taxes regressively (no income taxes, high sales taxes), but they do very little for their poorest residents—even to the point where many Republican-led states to this day refuse to opt into a Medicaid expansion that would be almost entirely financed by the federal government.

One irony in the politics of the SALT deduction is that many of the Marylanders, New Jerseyans, and others whose taxes went up in fact vote Republican. There are millions of wealthy and near-wealthy people who live in blue states, and they are the people who are much more likely to vote for Republicans.

If the immediate targets of what I am calling the Republicans’ political hit job are other Republicans, however, why did they include the SALT limitation in their 2017 tax giveaway to the rich? The answer is that, at least in this one way, Republicans understand economic incentives better than they otherwise seem to.

The ultimate target of the hit job, of course, was not the richer Republicans living in suburbs of D.C., New York, or San Francisco. It is the anti-poverty policies that those Democratic state legislatures finance with relatively high state-level taxes. Republicans’ policy goal was to make it more expensive for Democrats in Annapolis, Albany, Trenton, and Sacramento to mitigate poverty.

This is an example of a very old concept in the economic analysis of taxation known as “incidence.” For example, when a person says that a sales tax “is just passed along to customers,” she is saying that the incidence of the tax—that is, the ultimate burden—lands not on the people who seem to pay that tax (retailers) but on someone else (customers).

Similarly, conservative economists frequently become opportunistic progressives, warning liberals that increasing corporate taxes will lead companies to pay reduced wages. Notwithstanding that these are crocodile tears, they are arguing that the incidence of corporate taxes shifts the burden from the company to the employee.

Those two examples—sales taxes and corporate taxes—turn out to have very different empirical realities. Statistical analyses suggest that sales taxes do seem largely to be shifted onto customers, whereas corporate tax increases are not successfully shifted onto workers (which is why pro-business types fight so hard against corporate taxes).

But in the SALT story, the entire point of the Republicans’ policy was to inflict some pain not on richer Republicans in blue states but on the poorer residents of those states, counting on the incidence of the SALT deduction to land not on taxpayers but on states’ social welfare budgets. And it worked. The states that do the most for the poor have seen their budgets most stressed since 2017.

Are there even better approaches to helping poor people? Absolutely. There are all kinds of ways in which all levels of government can and should be doing more to fight the growing chasms of inequality in the United States. There are even ways to set up taxing and spending with no deductions at all (much less SALT deductions) that are much more progressive than our system today.

That first-best policies exist, however, is not an excuse to make the perfect the enemy of the good. Reinstating the SALT deduction would help states help the people who need it now, which is at this point an acceptable second-best solution—and it will continue to be so unless American politics takes a very unexpected turn.

That this policy change would also, oh by the way, remedy a constitutional violation should make it a slam dunk. The SALT deduction is easy to attack—too easy—from the left, but commentators need to stop going for cheap and easy partial truths. Too much is at stake.

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