What You Need to Know About the SALT Deduction Cap
State and Local Taxes (SALT) Deduction Cap: What You Need to Know
The Tax Cuts and Jobs Act (TCJA) was signed into law by President Trump in December 2017, bringing about significant changes to the tax code. One of these changes was a cap on the State and Local Taxes (SALT) deduction.
Before we dive deep into what this means for taxpayers, let’s first understand what SALT deductions are.
What is the SALT Deduction?
The SALT deduction allows taxpayers who itemize their deductions to deduct certain state and local taxes on their federal income tax return. These include:
– Property taxes
– State income taxes or sales taxes
– Local income or sales taxes
Previously, there were no limits to how much you could deduct from your federal taxes using SALT deductions.
What Changed with the TCJA?
With the implementation of TCJA, there is now a cap on how much you can claim for SALT deductions. The maximum amount that can be claimed is $10,000 per year ($5,000 if married filing separately).
This change has had a significant impact on taxpayers in states that have high property values and/or high state income tax rates such as New York, California, New Jersey, Connecticut, Illinois among others. These states have many residents who previously relied heavily on SALT deductions to reduce their federal tax liability.
Who is Affected by the Cap on SALT Deductions?
If you live in a state with high property values or/and high state income tax rates where residents typically itemize their deductions rather than taking standard deduction then chances are that you are affected by this new law.
According to estimates released by IRS about 11 million Americans claimed more than $323 billion in total state and local tax (SALT) deductions during 2018 which means an average of over $29 thousand per person claiming it. This means that those who claimed SALT deductions over $10,000 in 2018 will no longer be eligible to claim the full amount.
How Does the Cap on SALT Deductions Affect You?
The cap on SALT deductions may lead to more taxpayers taking standard deductions rather than itemizing their deductions. This means that some taxpayers who previously used to itemize might not be able to do so anymore as they cannot exceed the new maximum limit of $10,000.
This change could have a significant impact on homeowners, especially those living in states with high property values and high state income taxes. Previously, these taxpayers would likely save thousands of dollars each year by claiming SALT deductions. Now, they may have to pay more federal taxes since their allowable deduction is limited.
For example, let’s say you live in California and own a home worth $1 million with an assessed value of $700k which results in annual property tax bill of around $7k. Additionally, suppose you earn an income of about $200k per year; your state tax bill could easily exceed the maximum threshold allowed under TCJA cap resulting in higher federal tax liability than before.
What Can You Do If You Are Affected by the Cap?
While there isn’t much you can do about the cap itself if you are affected by it, there are still some steps that can help reduce your overall tax burden:
1) Consider Moving: While this may seem drastic for many people but moving from a high-tax state to one with lower taxes or no state income tax like Texas or Florida could significantly cut down your overall tax bill.
2) Donate More: Charitable contributions are still fully deductible up to 60% of adjusted gross income (AGI). Donating more money than usual can help offset any reduction faced due to capped SALT deduction limits
3) Start Saving Early: By investing early and often into retirement accounts like 401(k)s or IRAs, you can reduce your taxable income and lessen the impact of SALT deduction caps on your finances.
In conclusion, the cap on SALT deductions has been a significant change brought about by TCJA. It is important to understand how this change affects you and what steps you can take to reduce your overall tax burden. If you are unsure about how these changes affect you personally, consulting with a tax professional or financial advisor may be helpful in making decisions that will benefit your situation best.