Charity workaround to new federal cap could save New Jersey residents money, Democrats say

New Jersey homeowners facing higher federal taxes because of a new cap on deductions could potentially save money through a workaround proposed Friday by two Democrats.

The plan, outlined in Fair Lawn by Gov.-elect Phil Murphy and Reps. Josh Gottheimer and Bill Pascrell, calls for municipalities to set up charitable funds and then give homeowners credits on their property tax bills for what they donate.

Taxpayers would still be paying about the same amount to towns, but when they file their federal tax returns, they could get a bigger deduction, and therefore save money. The new tax bill President Donald Trump signed just before Christmas puts a $10,000 cap deduction on the total amount taxpayers can deduct for state and local taxes, known commonly as the SALT deduction. But it did not put a similar limit on contributions to charity.

For most of the country, that was not a big deal since the average total claimed for state and local taxes nationally was $12,471, and the new law lowered tax rates while also increasing the standard deduction for couples filing jointly to $24,000.

But according to the Urban-Brookings Tax Policy Center, the average SALT deduction claimed in 2015 was $17,850 in New Jersey. And Internal Revenue Service data show it was $28,257 in Bergen County, where Gottheimer and Murphy made their announcement.

With the $10,000 cap, people who itemize faced having to pay higher taxes because expenses they had been able to deduct would — starting with this year's tax returns, which most people will file in 2019 — be included in their income.

California is looking at a similar plan that provides state tax credits for donations to a state charitable fund. It already has a program that provides a 60% state tax credit for contributions to a fund that supports affordable college education.

Gottheimer said the Internal Revenue Service recently endorsed another state's program providing state tax credits in exchange for charitable contributions.

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"Our research has shown that there are more than 30 tax credit programs taking advantage of this charitable deduction around the country, in 22 states, that work in basically this same way," Gottheimer said. "It would be very hard for the IRS to retreat from programs it has been supporting for years, unless it wants to take away this relief in 22 other states."

But the new cap on deductions for state and local taxes was one of the few ways Congress tried to offset the cost of lowering rates and eliminating other taxes as it wrote the tax bill. Combined with new limits on the mortgage interest deduction, the $10,000 cap on state and local deductions was expected to generate an additional $668 billion over the next 10 years, according to the Joint Committee on Taxation.

Under the New Jersey and California plans, contributions to the municipal or state charity funds would be voluntary. And they would only be beneficial for people who itemize on their taxes, a group that is expected to shrink in coming years because of the increase in the standard deduction.

New York Gov. Andrew Cuomo said Wednesday that creating “new opportunities for charitable contributions” was part of a multi-prong strategy he was planning to attack the deduction cap that also included a lawsuit and possibly changing state taxes imposed on employees to those imposed on employers, because businesses will continue to be able to deduct all state taxes.

Murphy, who takes office Jan. 16, said Friday that his team also is looking into multiple options and that he plans to keep in contact with other states. While possibilities for New Jersey include legal action and changes to a payroll tax, Murphy said that using a charitable deduction as a workaround seems the most feasible.

"The precedent is much richer and much deeper on the charitable side," Murphy said. If it requires legislation at the state level, he said he would be "really excited" to work with Senate President Stephen Sweeney and incoming Assembly Speaker Craig Coughlin to shepherd it through the Legislature.

"We are all in on this," Murphy said.

Local officials in Bergen County said Friday they are eager to see such a plan put into action given the county's high tax burden. They said they fear residents leaving the state and property values declining as a result of the federal tax overhaul. The mayors of Fair Lawn, Paramus and Park Ridge said they plan to present the option to their governing bodies in the coming weeks.

The Tax Foundation, a think tank whose studies were quoted often by Republicans during the recent debate, said Friday that the new plans won't work because the law requires a charitable intent for a contribution to be deductible, and contributions for financial gain would not qualify.

But a more liberal group, the Institute on Taxation and Economic Policy, reported last year how financial advisers have advertised how taxpayers could make a profit by giving to funds in other states that support private school tuition vouchers.

The IRS has long required taxpayers to subtract the value of anything they receive in return for a charitable contribution before taking a deduction, so someone who gets a $5 tote bag for a $50 donation to a public TV station, for example, can only deduct $45.

But the IRS has also said that the value of the deduction itself in terms of federal tax avoided does not have to be subtracted, said Kirk J. Stark, a tax law professor at the University of California-Los Angeles School of Law.

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As recently as October 2011, the IRS chief counsel reviewed a Missouri law that provided a 25 percent state tax credit for contributions to domestic violence shelters and decided that benefit would not be treated the same as a public television tote bag.

“The tax benefit of a federal or state charitable contribution is not regarded as a return benefit that negates the charitable intent,” the IRS memo said, citing federal tax court rulings in 1985, 1989, and 1991.

Stark said the IRS could change its ruling to address what California and New Jersey are looking to do, but it would not be easy.

“The IRS could disavow the memo, but to do that, they would have to contend with the fact that the prior memo is a reflection of deeply embedded principles of law applied in a bunch of different settings,” Stark said.

They include not just the school voucher programs, but also more widespread programs that provide real estate developers incentives to preserve land on which they could otherwise build.

"Tax credits for donations of conservation easements have become a popular thing to do," Stark said. "Before he became president, Donald Trump made several donations of conservation easements over the years."