Can the State Help You Offset SALT Limitations?


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Federal law controls the proper characterization of payments for federal income tax purposes.

IRS Notice 2018-54

We all want a solution to the new tax liabilities we all face. Some need solutions for favorable tax treatment of vacation homes or secondary residences. Others need solutions for state income taxes.  Or, maybe you need a solution for several new tax issues.

You have recently learned about The Tax Cuts and Jobs Act; specifically, you have learned of the new limits that the tax law has imposed on itemized deductions for state and local taxes (“SALT”).  All of us will have to navigate through the wild west that these limitations have created.  However, don’t buy the snake oil from the fast travelling dealer.

Some states are attempting to create and sell some quick fixes to address the tax issues we are all facing.  This new proposed state legislation allows us taxpayers to transfer more money to state/local controlled funds or state/local approved funds in exchange for potential satisfaction of state and local tax liabilities and take a federal income tax deduction for those payments as charitable contributions. These work-arounds might enable taxpayers to gain favorable tax treatment from the state and federal governments in one tonic.

Wait. What does the IRS think about this?  Does it really matter what the IRS thinks?

The IRS maintains a life-time seat in the wild west to judge people’s attempts to “work around” new tax law changes. The IRS quickly responded to the state proposals with a notice of intent to regulate and define the treatment of taxpayers’ contributions to receive a credit against state and local taxes. While, the IRS has not clarified how it will treat the legislative tonics, the following statement is clear:

“Despite these state efforts to circumvent the new statutory limitation on state and local tax deductions, taxpayers should be mindful that federal law controls the proper characterization of payments for federal income tax purposes.” 

According to the IRS, the state will not define how it will characterize your payments. IRS Notice 2018-54.

The IRS is concerned that taxpayers will be hoodwinked into believing that the form of the contribution is more important than the substance – the duck test.  Yes, I believe that the IRS is a big fan of the duck test in some circumstances – Does it look like a duck? Does it swim like a duck? Does it quack like a duck? Then, it is probably a duck.

Let’s look a possible example of the IRS’s substance-over-form principals, “duck test.”

  1. Are you transferring funds to a state or local government controlled or specified fund?
  2. Are you giving these funds to receive satisfaction of state or local tax liabilities?
  3. Are you giving these funds under the guise of charitable contributions to receive deductions on your federal income tax?

If you answered yes to these questions, you likely failed the duck test here. The IRS must still provide us with guidance. I am encouraged to see the states making an effort to help us mitigate some tax liabilities. But, can we expect a cure for our tax side-effects through a state provided exploitation of a federal characterization of taxpayer charitable contribution? Sounds like snake oil to me.

Without knowing how the IRS will categorize taxpayers’ contributions, it is best to stay patiently informed.  I would not expect a single miracle tonic to materialize soon, if ever.  If itemized deductions are going to be limited, it is most likely we will need to address each item through proper planning for future tax liabilities.

We have navigated the wild west of tax law and its charming dealers for more than 30 years. The sun is just now coming up over the horizon.  You can gamble on a high-noon gun fight.  However, we prefer to guide you through proper tax planning and provide long term solutions to your tax implications.

Call us at 877-622-5840 and schedule an appointment with a board-certified tax law attorney*.

* Steven A. Grenier is certified by the Louisiana Board of Legal Specialization as a specialist in Tax Law and Estate Planning and Administration.

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