Taxes

Even Reagan Couldn't Kill This Tax Deduction

Trump wants to kill a tax break that mostly helps blue states, but he'll face opponents on all sides.

Sacred cows put up a fight.

Photographer: Hulton Archive/Getty Images

Republicans eager to put the health-care debacle behind them are looking forward to one of their signature strengths: tax reform. Trump has actually done some of the homework here, having unveiled a tax plan back in April.

In it, he targeted a longstanding provision in the federal code: the deduction for state and local taxes, otherwise known as SALT. At first glance, this looks like an idea that Republicans can rally around. Repealing the deduction would disproportionately hurt so-called “blue states” who vote Democratic and thrill leading fiscal conservatives who have also floated the idea: Kevin Brady, the powerful chair of the House Ways and Means Committee, and House Speaker Paul Ryan, who made the rollback a central piece of his own tax plan.

But history suggests they'll face opponents on all sides. In fact, the last time a Republican president tried to slaughter this particular sacred cow -- forged, it seems, in 1861 -- he faced a mutiny across the political spectrum. 1

While Congress spent more than a century nibbling at the deduction 2 , no one seriously thought about abolishing it until Ronald Reagan became president. In a State of the Union address in 1984, Reagan launched his crusade, declaring that he wished to reform the tax code with an eye toward “fairness, simplicity and incentives for growth.”

According to one account of this effort, Reagan directed the Treasury Department to come up with a blueprint for reform. They delivered their report to the president the following November, as he handily won his reelection campaign. In it, the still-relevant arguments against the deduction were summarized: that it effectively subsidized high-tax states at the expense of low-tax states, and that the subsidy overwhelmingly benefited “high-income individuals and high-income communities. The Treasury report also pointed out that savings from removing the deduction would help offset all the other tax cuts Reagan wanted.

The initial response was muted, with one notable exception: New York. Though taxpayers in any high-tax state depended heavily on the deduction, New York was at the very top of the list. On average, a taxpayer in New York state who itemized their return saved $1,292 per year because of the deduction that Reagan wanted to eliminate; by contrast, residents in a low-tax state such as Wyoming only received an average of $257.

New York’s political leaders understood the peril the new plan posed, and even if they didn’t, Treasury Secretary Donald Regan made clear the stakes of the coming battle in December 1984. “My heart will not break,” he said in an interview, “if New Yorkers lose the right to deduct billions in state and local taxes from their taxable incomes.”

Well. New York’s political community may have been hopelessly divided on every other issue, but here was a rare opportunity for bipartisanship. Almost overnight, top Democrats Mario Cuomo (governor), Daniel Patrick Moynihan (U.S. senator) and Ed Koch (New York City’s mayor) had joined forces with top Republicans Al D'Amato (U.S. senator) and Warren Anderson (majority leader of the state Senate).

The New Yorkers took their battle to Congress. They adopted the time-tested strategy of casting the issue as one that affected all taxpayers, not just well-heeled New Yorkers. They also forged alliances with the real estate industry. In 1985, Representative Raymond McGrath, Republican of Long Island, sponsored a resolution declaring that the deduction was “essential to the well-being of moderate-income Americans, state and local governments and the housing industry.” At the time, the Empire State had 34 people in its delegation to Congress; 32 of them voted for the measure.

Over the next year, Cuomo and his motley crew of allies formed a loose-knit group known as the National Coalition Against Double Taxation, which drew together a wide range of Democrats and Republicans, state and local officials, real estate lobbyists, and others worried about the impact of repeal. (Newspaper accounts from this period do not record Trump’s position on this debate, and he was otherwise absent from the larger national debate over tax reform at this time.)

By the time Reagan rolled out his version of a tax bill in May 1985, a broad opposition movement stood in the way of his efforts to remove the deduction, which the president considered the cornerstone of his reforms.

Adding insult to injury, Reagan enlisted an unlikely ally who ended up playing him: Democrat Dan Rostenkowski, the powerful chair of the Ways and Means Committee. While he expressed interest in brokering a deal as a way to build his case for the Speakership, he later told Thomas Downey, a Democrat from New York on the committee, “I was always going to give you state and local taxes.” Indeed, when the bill made it out of committee, the provision abolishing the deduction vanished.

While the tax bill would spend another year bouncing between committees in the House and the Senate, no one managed to revive Reagan’s goal of eliminating the deduction. The final version that Reagan signed on October 22, 1986 did manage to eliminate the deduction for state and local sales taxes -- a smaller victory that was reversed in 2004.

Now Trump wants to venture where Reagan failed. To overcome what promises to be an equally vocal bipartisan coalition -- perhaps even including yet another Governor Cuomo -- the president will need to summon all the political skills of the “Great Communicator.” He will need to be mindful of the ways of Washington and have an almost preternatural ability to forge a delicate political consensus across party lines. He will need the goodwill of both Democratic and Republican power brokers in Congress.

He will, in short, need a miracle.

This column does not necessarily reflect the opinion of the editorial board or Bloomberg LP and its owners.

  1. The origins of this deduction are, like so much of the tax code, murky. In 1861, Congress passed the nation’s first income tax in order to defray the costs of prosecuting the Civil War. Under its original provisions, taxpayers could deduct state and local property taxes from any revenue they earned from their properties. Though the provision began as a business deduction, three years later Congress extended it to anyone paying the income tax.

    It’s not entirely clear why Congress did this. Some tax scholars argue that the deduction marked an attempt to avoid the appearance, if not the reality, of “double taxation.” Justin Morrill, then-chair of the House Ways and Means Committee, declared that when it came to taxes, “the orbits of the United States and the States must be different and not conflicting.”

    The double-taxation theory sounds plausible, though other researchers point out that the first income tax permitted renters to deduct the cost of their annual rent from their income. Part of their rent, though, went toward paying the property taxes incurred by the owner. By giving the deduction to the owner as well, Congress effectively leveled the playing field between renters and homeowners.

  2. In 1964, Congress removed cigarette, liquor, and a handful of other state taxes from consideration.

To contact the author of this story:
Stephen Mihm at smihm1@bloomberg.net

To contact the editor responsible for this story:
Mike Nizza at mnizza3@bloomberg.net

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