New Federal Tax Law Means More State Taxes From Arizonans

By  Claire Caulfield, Howard Fischer
Published: Saturday, January 13, 2018 - 5:00am
Updated: Tuesday, January 16, 2018 - 1:04pm
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A new report by the Department of Revenue, obtained by Capitol Media Services, shows both individuals and corporations will owe more state taxes under the new federal tax plan.

For Individuals

The report estimated Arizona residents will collectedly owe $15.6 million more for the current budget year.

But the real difference will be in the next budget year, which starts in July. Arizonans will collectively pay $222 million dollars more than if the federal law did not change. The following year that number jumps to $258 million.

The tax plan affects Arizona in this way because of the “piggyback” system. Individuals and corporations in Arizona make state tax computations based on "federally adjusted gross income” not raw income. For individuals, that is line 37 of the federal form 1040.

Another big difference, according to the state Department of Revenue, is the massive changes to the deduction system. Arizona law mandates that individual income tax filers who itemize must, in general, use the deductions allowed by federal law.

There are now limits to those federal deductions on how much can be subtracted for state and local taxes.

And gone entirely are deductions for tax preparation fees and the value of items lost due to theft or casualty.

According to the report, Arizona taxpayers will lose about $170 million in deductions for their 2018 income taxes.

The reason the changes don't similarly increase federal income taxes is because Congress also sharply increased the “standard deduction,'' which is the amount people who do not itemize can deduct from their income. That will discourage many people from itemizing, particularly those who do not have large deductions in the areas that remain, like home mortgage interest.

For Businesses

Businesses are less affected by this system, although the state will also see an increase from them. The report estimates businesses will collectively pay $13.8 million more next year and $27.5 million more the year after that.

There will be immediate savings to businesses who buy expensive new equipment.

Current law allows businesses to deduct a portion of those costs from their current-year income. But the new law says the entire cost can be written off in the first year.

That, in turn, lowers the filer's taxable income and, by extension, the taxes owed to the federal and state government.

Another provision of the federal law simplifies small business accounting. It increases the standard deduction of what they can take off their income for expenses without itemizing.

But other changes will, overall, add to what businesses owe the state.

These changes limit what corporations can deduct in employee fringe benefit costs, unreimbursed employee expenses changes what the federal government considers "excessive employee compensation.''

For The State

The state will automatically receive this windfall of new tax revenue unless the legislature intervenes.

On Thursday, the governor’s office declined to say whether the state budget would be based on the state getting a windfall of new tax revenues.

"We want to be responsible and take our time on this,'' said Daniel Scarpinato, spokesman for Governor Doug Ducey.

Tax attorney Bob Kamman said the question of what legislators should do is not simple.

Lawmakers could make a series of complex changes in state tax laws to reinstate the eliminated deductions. That, however, would complicate the ability of Arizonans to do their own taxes.

And there's something else.

"Most of the changes in federal law to individual taxes expire in eight years,'' Kamman noted. "So the Legislature must lower taxes this year to avoid a $250 million tax increase, and then may have to change the law again by 2025 to keep Arizona from bankruptcy.''

Kamman recommended legislators "decouple'' state income taxes from the federal definition of taxable income and come up with their own definition.

For example, the state could increase the standard deduction to $12,000 per person — the new federal figure — or even raise it to $22,000, which is the state minimum wage. At that point the state could eliminate all itemized deductions and tax income above that standard deduction at a flat 2 percent rate.

And he said if that doesn't bring in enough revenue, the state could tax income above $100,000 at 3 percent, or the present highest rate of 4.24 percent.

"Not everyone would be able to file their state returns on a postcard,'' Kamman said. "But many could benefit from simplification.''

There is precedent for Arizona lawmakers enacting variances from the deductions allowed under federal law.

Federal law has previously allowed people to take medical and dental deductions if they exceed 10 percent of an individual's adjusted gross income. Currently, Arizona residents who itemize on their state return can deduct all medical expenses.

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