Since the inception of the federal income tax in 1913, federal taxpayers have been allowed to deduct certain state and local taxes in calculating their taxable income. In its final report, in 2005, the President’s Advisory Panel on Federal Tax Reform recommended elimination of the state and local tax deduction, which provides a federal subsidy for some of the taxes levied by state and local governments. That subsidy is of substantial personal benefit to residents of the states and localities that receive it, but it is not shared equally among all federal taxpayers. In addition, the individual alternative minimum tax (AMT) increasingly eliminates the benefit of the state and local tax deduction for many middle-class taxpayers.
This Congressional Budget Office (CBO) paper, which was prepared at the request of the Ranking Member of the Senate Budget Committee, examines the arguments for and against the state and local tax deduction; how the benefits from the deduction are distributed among different groups of taxpayers and different governments; how the deduction and the AMT interact; and how modifying or eliminating the deduction would affect the federal budget, the finances of state and local governments, and federal taxpayers. In accordance with CBO’s mandate to provide objective, impartial analysis, the paper makes no recommendations.