ALBANY — State officials are stepping up with ideas on how to circumvent the new federal tax law that limits deductions on state and local taxes.
They are considering government-created charities — maybe one, maybe as many as 700 — as a way to assist a small number of New York taxpayers who itemize their federal taxes.
The idea is not without legal and tax complexities, but the approach is fairly basic.
Consider a bill that Assemblyman Robin Schimminger intended to file soon. The Kenmore Democrat wants to create the State Charitable Health and Education Fund. The fund would steer charitable donations from New York residents, who then would be given a dollar-for-dollar matching credit on their state tax filings. They also would be able to deduct the full donation as a charitable contribution on their federal filings.
It all sounds like an attempted end-run around the new federal tax law, which limits to $10,000 the total amount of state and local tax deductions.
But Schimminger doesn’t characterize it as circumventing the tax law. He said his newly created charity is a means for taxpayers to more narrowly direct where their tax payments might go — to health programs, like Medicaid, or to funding public schools — instead of their tax payments going into the state’s general fund account that disburses money to any number of areas.
Still, he recognizes the tax allure for some New Yorkers who are looking for ways to maximize deductions under the new federal law.
“In these current times, it may attract greater interest from taxpayers here in New York,’’ Schimminger said.
A charitable way to snub Washington
Several lawmakers, as well as Gov. Andrew M. Cuomo, are exploring similar ideas. Cuomo might offer his own version of a charitable fund when he unveils his 2018 state budget next week. If so, it will be sold as a means to soften the blow of the federal tax law for a minority of state taxpayers, mostly downstate, who will see higher federal tax bills because they no longer will be able to fully deduct their state and local taxes. Only about a third of New Yorkers now itemize their federal taxes, and that number will drop in the next year as the new law pushes more taxpayers to use the standard deduction filing route.
At the White House Thursday, U.S. Treasury Secretary Steven T. Mnuchin was asked about the charitable end-run plans being eyed in New York and other states, such as reducing property tax payments by donating to a government-administered charity. While he would not say if the IRS might try to block those efforts, he said: “But I think it’s one of the more ridiculous comments, to think that you can take a real estate tax that you’re required to make and dress that up as a charitable contribution.’’
“I hope that the states are more focused on cutting their budgets and giving tax cuts to their people in their states than they are on trying to evade the law,’’ Mnuchin said.
A week ago, in a briefing with The Buffalo News, Cuomo administration officials focused energies on a different end-run to the tax law. They talked about creating a statewide payroll tax on employers, who could deduct the full amount of any such tax hike. That idea ran into problems from business groups and legislators who said it's hard to trust the notion that the move would be revenue-neutral for taxpayers and it’s an overly complex response that leaves out 18 percent of the workforce.
Key to that plan was the politically impossible concept of employees taking taking a salary cut — even if their take-home pay remained the same through lower state income taxes.
“I don’t like the payroll tax at all. I haven’t met any one of my colleagues who likes this — the payroll tax. People pay enough taxes already,’’ Senate Majority Leader John Flanagan, a Republican, said this week of the tax idea being studied by the Cuomo administration.
Enter the charitable donation idea. Some are talking about creating 700 new public charities — one for each school district — to accept donations from residents in lieu of property taxes.
Some see “special purpose” funds, such as the one Schimminger is examining.
It all doesn’t feel quite right to E.J. McMahon, research director at the Empire Center, a think tank that studies New York’s finances. On the plus side, the charitable vehicle idea is better than the new payroll tax solution, he said. Setting up “virtual charities” through public agencies also wouldn't be overly complex.
“The problem is … passing muster with the IRS, which it won’t,’’ McMahon said.
He says taxpayers will be getting a direct financial benefit — state and federal tax breaks — by giving to these charities, and that the IRS will not look favorably on that move. Other states years ago set up such funds, though not as end-runs around the federal tax code. Charitable funds have been used as supplements to spending efforts the states either could not, or would not, fund.
“It’s not a pay me this way or pay me that way,’’ McMahon said of some other state programs.
In New York, the ideas kicking around are different.
“It’s an incentive for taxpayers for you to support something that already exists,’’ he said of directing, for instance, charitable money to pay for school aid.
It might help some taxpayers, mostly downstate, and it may or may not get past IRS scrutiny, but McMahon said the charitable idea has one advantage.
“It’s a state-sponsored, tax avoidance scheme, " he said.
In response to McMahon, Schimminger said his bill will be narrowly focused — earmarking proceeds for health and education — as a way to reduce IRS scrutiny. Still, if the IRS does block the charitable scheme, Schimminger said, taxpayers will be no worse off financially than what some of them already face with the limits on state and local tax deductions.
"No harm, no foul,’’ he said.
There are numerous variations on the charitable idea, and Senate Republicans are due to discuss them and other tax response plans in a closed-door meeting next week.
The charitable donation effort is gaining support in some other high-tax states, including California and New Jersey. On Thursday, it drew the backing of Randy Levine, the New York Yankees president and a former deputy mayor of New York City. In an op-ed published on the Empire Report news website, Levine urged Cuomo to drop the payroll tax effort as a way to end-run the federal tax law and to, instead, embrace the charitable donation idea; he said it would keep overall funding for state programs stable and that the "only loser" would be the federal government, which would get reduced tax revenues from New York State residents than the new law projects.
The view from Missouri
Forty-one states have what can be considered less ambitious charitable initiatives: the tax “check-off” box, according to the National Conference of State Legislatures in Colorado. That’s the box where taxpayers can earmark money to fund wildlife protection efforts, cancer research, Lake Placid Olympic Training Center, among others.
Two states — Arizona and Missouri — have check-off programs in which donations are deposited into the state’s general fund account and aren’t earmarked for specific purposes, said Katie Quinn of the NCSL group said. In Arizona, it’s called the “I Didn’t Pay Enough” fund, and donations are deductible on federal filings.
Missouri does more. Near the state Capitol in Jefferson City, Bob Miserez is the executive director of the Missouri Development Finance Board, an offshoot of the state’s economic development agency. His board runs one of dozens of charitable groups set up by state government agencies to provide funding outside the state budget process to help finance at-risk youth programs, environmental efforts, capital programs and others.
The finance board’s charity was set up in 1986, and the IRS several years ago cleared the state’s approach that ensured Missouri residents can continue to fully deduct donations to those state-run charities. Residents also get a 50 percent state tax credit. The finance board’s charity has funded about 150 infrastructure-only projects over the years, from historic building renovations to a Special Olympics project.
But the Missouri program wasn’t created to specifically help taxpayers there reduce their tax obligations — even if that is a side benefit. It’s also not open-ended: the state limits to $10 million the amount of tax credits that can go to donors of the finance board’s charitable group. Miserez says the fund averages about $8 million in annual donations.
“I’d classify them as almost exclusively charitable or benevolent. They want to support a project that they don’t directly benefit from,’’ Miserez says of donors who give amounts ranging from about $250 to $25,000.
Expert urges some pauses
In 2015, the average state and local deduction taken by New Yorkers who itemized totaled $22,169, according to the Government Finance Officers Association. Thirty-five percent of New Yorkers that year took a deduction for those taxes.
At the University at Buffalo Law School, Stuart Lazar, a professor and expert in tax law, has closely watched the federal tax end-runs being considered in Albany. Of Cuomo’s looming lawsuit to try to overturn the federal law, Lazar says it might be good politics but it has no legal merits.
“I don’t see any real basis for a constitutional challenge,’’ he said of a lawsuit.
Lazar said the payroll tax idea “hasn’t been very well thought through,’’ and stabs at the heart of New York’s progressive income tax system and its different treatment of taxpayers based on income and filing status.
Of the charitable fund idea, Lazar called it “clearly a workaround of the president’s bill.’’
Still, he added, “The prevailing view is that yes, it probably does work.’’
That’s not to say, though, that Congress and President Trump won’t react to reverse such workarounds by states like New York. Also, whether the IRS intervenes and would limit the deductibility donations to the state-created charities is also a possibility, he said.
More broadly, Lazar wonders why Albany would consider paying for state services through charitable donations — especially given the unpredictable ways of charitable giving. “If I’m a legislator and I’m thinking about budgeting over multiple years how does this work for me?’’ Lazar said.
“It’s not uncomplicated,’’ Lazar said of the charitable tax idea.
Importantly, what if Washington, perhaps under a future president for instance, tweaks the tax law enacted in December to address issues being raised by high tax states? Is Albany about to create a long-term tax code change future governors might regret?
“We’re talking about major changes to the state tax system. There’s no question the state tax system needs a lot of reform. But in order to save an itemized deduction, I’m not sure that’s the reason for reform,’’ Lazar said.