New York, other states, to sue IRS over SALT cap

ALBANY — New York, New Jersey and Connecticut sued the Trump administration Wednesday to try to undo the reinforced $10,000 federal cap on deductions for state and local taxes, the Cuomo administration announced.

The lawsuit was filed against the Internal Revenue Service, which just weeks ago enacted rules that effectively solidified the cap by blocking states from passing laws to circumvent it. It mirrors another multistate lawsuit, filed last year, challenging the legality of the 2017 federal tax law itself. 

And later Wednesday, in part of a two-pronged attack on the IRS, two Westchester County municipalities filed suit seeking to overturn the cap. Scarsdale and Rye filed the claim on behalf of a coalition of local governments, including Nassau and Suffolk counties.

A New York fiscal watchdog called the lawsuit claims "dubious" and "disingenuous." 

Gov. Andrew M. Cuomo, in announcing the states' lawsuit, repeated his belief that the deduction limit was a political act by Republicans that primarily punishes Democratic states “solely in the name of retribution.”

“The final IRS rule flies in the face of a century of federal tax law that says state choices to provide tax incentives for charitable donations do not affect the federal deductibility of those gifts,” Cuomo said in a statement. “This is entirely unacceptable and, as I’ve said before, the IRS should not be used as a political weapon.”

The lawsuit, filed in federal court in Manhattan, is just the latest attempt by political leaders in New York and other high-tax states  to overturn the cap on state and local tax deductions, often referred to as the SALT cap.

It began in 2017 when President Donald Trump and a Republican-controlled Congress overhauled the federal tax code. Among the changes, they limited the deduction a taxpayer can take for state and local taxes  to $10,000. Previously, there was no cap.

They also doubled the standard deduction, making it $24,000 for married couples, which analysts said would negate the impact of the SALT limit for many homeowners.

Leaders of high-tax states — especially New York, New Jersey, California, Connecticut and Illinois — called the cap a political hit job on primarily Democratic states.

In response, Cuomo and state legislators approved a law that would let homeowners pay their property taxes in the form of charitable contributions and take the federal charitable tax deduction to almost completely offset their payments.

But the IRS has called such measures a blatant scheme to sidestep the tax-deduction cap. Last month, the IRS implemented rules that effectively block attempts to label tax payments as charitable contributions.

E.J. McMahon, an analyst with Empire Center, the conservative think tank in Albany, criticized Cuomo's claims and the state's attempt to circumvent the cap. Anyone can recognize the funds the state and localities are trying to create are, essentially, a ruse and not true charities, he said.

"The states’ argument is dubious and basically disingenuous," McMahon said. "As anyone would recognize, there is a difference between these charitable trust funds created as frank SALT work-arounds and private scholarship funds that depend entirely on voluntary contributions."

That said, if the states win the lawsuit and the SALT cap is eliminated, it would be likely to trigger either a repeal of the Trump tax plan or tax hikes, McMahon added.

The municipalities' lawsuit was filed by the village of Scarsdale and the town of Rye, which have sought to create charitable funds to provide an end run on the deductions cap. 

"In trying to satisfy the whims of this administration without running afoul of powerful interests, the IRS regulations strayed far from the law that they were supposed to interpret," said Assemb. Amy Paulin (D-Scarsdale), a sponsor of the bill to create the charitable funds in question in New York.