How the federal tax overhaul passed last month will affect the state tax system in California is very much an open question.
A half dozen proposed bills are likely to be brought forward in Sacramento in response to the sweeping Republican legislation in Washington.
In this post, we will update you on two of the key issues in play: state-and-local tax deductibility and conformity of California’s tax code to the federal code.
State-and-local Tax Deductibility (SALT)
The federal tax overhaul put a limit of $10,000 on the deductibility of state and local taxes – raising the prospect of higher taxes for many Californians. In the State Senate, however, there is already proposed legislation that seeks to get around this.
Senate Bill 227 would allow Californians to make charitable donations to help fund schools and state government. The donations would be made to a newly created nonprofit called the California Excellence Fund, which would be run by the state.
In return, taxpayers would get a break on state taxes and also be able to take a federal charitable deduction. The Senate Appropriations Committee will hold a hearing on it on January 16.
There is a lot at stake, especially for higher-income Californians. In 2015, about 2.5 million tax filers in California took more than $10,000 in state-and-local deductions. And nearly 9 in 10 of those taxpayers reported six-figure annual incomes.
State Tax Conformity
Most states follow the federal tax code for definitions of a myriad of highly detailed tax provisions. But such conformity is by no means a given in California.
In fact, the general rule in California is the opposite. There is no automatic conformity of California tax provisions to federal provisions. Automatic conformity occurs only for two specific sections of the California tax code, regarding real estate investment trusts and retirement accounts.
In all other cases, to make California tax provisions conform to the federal model, the California Legislature must pass legislation to do so.
Such legislation passed in 2015. But there are two big factors that make it doubtful California will pass conformity legislation again anytime soon.
One of these factors is the sheer complexity of the federal overhaul. The other is California’s Proposition 26, which requires a two-thirds majority for any state legislation that would raise taxes on any individual.
When or if will California conform to the federal overhaul? The head of the Technical Services Bureau at the California Franchise Tax Board testified that it could be a year or two. That is what happened after the previous federal tax reform, in 1986.
In other words, conformity probably won’t happen anytime soon. And in the meantime, proposals such as the one for state-and-local tax deductibility could take California further away following the federal example.