June 2018 Tax Snacks
Tax Snacks: Bite-size tax news and information on the fly
July 31: Filing deadline for calendar year benefit plan returns (Form 5500)
It is very early in the stages of lawmaking, but another round of tax reform, following up on December 2017’s Tax Cuts and Jobs Act (“TCJA”), is in the works, and it appears poised to take the same partisan path as its predecessor. Last week, the House Budget Committee approved a resolution that if it is passed by the House and Senate, will allow use of the same “reconciliation” process that allows legislation to be enacted with simple majority votes. (It does so by preventing filibusters from holding up a bill’s progress.) Readers may recall that the reconciliation process was used in 2010 by Democrats to pass the Affordable Care Act, and in 2017 by Republicans to pass the TCJA.
Under complex procedural rules, the reconciliation process arguably can be used only once per year, and a party controlling Congress will give plenty of thought to what legislation is worthy of cashing that chip. It is not clear yet that tax rules will be used for this purpose, but last week’s vote preserves that ability.
We know very little of their plans, but Congressional Republicans suggest that the temporary individual tax cuts, including the 20% pass-through entity deduction, may be made permanent. (The permanent features of the TCJA related primarily to corporate changes.)
The MA Attorney General approved a question for the 2018 state ballot that would have imposed a new state tax surcharge on incomes in excess of $1,000,000. However, earlier this month this so-called “millionaire’s tax” was ruled by the MA Supreme Court as unconstitutional, because only flat income tax (not graduated tax) is authorized in the state’s constitution.
In November 2016 via referendum, a 3% Maine tax surcharge on individual incomes over $200,000 was passed. The tax was intended to shift some of the burden of education costs from municipal taxpayers to state taxpayers. Before it became effective, though, the surcharge was eliminated by the state legislature last summer.
Another citizen’s initiative is in the works that has the potential to benefit the elderly and disabled and those who provide their care, but give Maine the third-highest tax rate in the nation. To be voted on this November, the proposed law would add 3.8% to employee’s wages in excess of $128,400, to be shared equally by the employee and employer. Also, it will extend to non-wage income (such as interest and dividends) by assessing a 3.8% tax on households with nearly any income exceeding $128,400. The tax would fund a new government agency that would oversee payments to cover costs of care provided to anyone aged 65 or older, or anyone who needs assistance performing one or more activities of daily living, such as bathing, cooking, transportation, shopping, and domestic work. To participate in the program, caregivers (including family members) will be treated as state employees, eligible for collective bargaining and a public employees’ union.
Like the MA tax described above, some legal experts believe this tax is unconstitutional, but its fate is not yet determined.
The state of Connecticut pulled a fast one on us just weeks ago, when it altered its tax regime related to flow-through income. In prior years, entities could pay shareholders’ entire year’s tax by April 15 following year-end. On the last day of May 2018, however, a law was passed requiring quarterly estimates, beginning with Q2 of 2018 (due 14 whole days later).
Interestingly, the nature of the tax also changed, potentially for the better, but for nonresidents, potentially for the worse: The tax formerly may have been collected from an entity, but it represented an individual-level tax on the shareholders. As such, it was deductible only as an itemized deduction. Under federal Tax Cuts and Jobs Act, beginning in 2018, the standard deduction is nearly doubled, and state tax deductions for those who will still itemize will be capped at $10,000. Connecticut’s new regime re-characterizes its tax as an entity-level tax, which allows it as on offset to adjusted gross income, rather than relying on its use as an itemized deduction.
So far, so good, but this law change may favor CT residents more than nonresidents. It does so by allowing a new credit that prevents the CT resident from being taxed at the individual level for the CT income that was already taxed at the entity level (resulting in one level of tax on that income). This is similar to the “credit for taxes paid to other states” that nonresidents enjoyed before this change. By example, before this change a Maine resident with CT flow-through income would have paid individual-level CT tax on the CT income. He or she then would report ALL income on the Maine return, compute the preliminary tax, and then reduce it for the tax paid to CT. In the end, that nonresident’s share of CT income was subject to state tax only once – in CT. But unless Maine (or other CT nonresidents’ home states) provides a new adjustment, nonresidents will be taxed on that same income twice under the new regime: once at the entity level, and again at the state level. This occurs because there is no mechanism in most states to allow a credit on individual returns for an entity-level tax.
Other states are considering action similar to CT’s, to help mitigate the diminished use of state tax as a federal itemized deduction. Fortunately, there is some preliminary talk of reciprocal agreements that would mitigate double-taxation. In the meantime, be prepared for a hodgepodge of results on the state front that likely will not work in taxpayers’ favors.
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