Up until 2017, taxpayers were able to deduct an unlimited amount of property taxes, state and local income taxes and personal property taxes. According to the Tax Policy Center, about 30 percent of all taxpayers prior to 2017 chose to itemize deductions on their federal income tax return, while 70 percent opted to go with the standard deduction.
Most of these taxpayers who itemized were able to claim large deductions for state and local taxes, known as SALT deductions. For example, the average SALT deduction for taxpayers with incomes above $100,000 was $22,000.
The Tax Cut and Jobs Act drastically changed the tax landscape in 2017.
What is the Tax Cut and Jobs Act?
The Tax Cuts and Jobs Act of 2017 made several significant changes to the tax code. It almost doubled the standard deduction, going from $6,500 to $12,200 for single filers and people who are married filing separately. But more significantly, it placed a cap on the amount of state and local taxes that could be deducted from your tax return beginning in tax year 2018. The maximum deduction for SALT is now $10,000.
This limitation is for the total amount of the SALT deduction, including property taxes and state and local income and sales taxes. However, you must choose between deducting state and local income taxes or sales taxes. You cannot deduct both.
Nevertheless, you will not be affected by this limit unless you itemize your deductions.
So the decision now turns to whether you should take the standard deduction or itemize your deductions on your federal tax return.
Read More: What is the Difference Between 1041, 1040A & 1040EZ?
What are the SALT Deductions?
SALT deductions fall into the following categories:
- Income taxes
- Sales taxes
- Real estate taxes
- Personal property taxes
Let’s explore how each of these taxes might affect your tax return.
State and Local Income Taxes
If you are paid a salary, you can deduct the state and local income taxes withheld from your gross income during the year. These amounts will be shown on the Form W-2 that you receive from your employer.
While penalties and interest on unpaid or past-due taxes are not deductible, payments made on past-due taxes are deductible in the year paid. You can also deduct any estimated tax payments made during the year. Or if you’re doing some year-end tax planning, you can deduct estimated tax payments in advance of next year's expected tax liability.
Some states – like California, New York and New Jersey – have mandatory contributions to disability, family leave and unemployment funds. These compulsory contributions are deductible.
Refunds from prior-year state and local income taxes do not reduce your deduction for current year state and local income taxes. Instead, these refunds should be entered on Line 1 of Schedule 1 for Form 1040.
State and Local General Sales Taxes
If you decide to use the state and local sales tax deduction, you must check the box on Line 5a to indicate your choice. You have the option to use either the IRS sales tax calculator or your actual expenses to calculate your deduction
You should keep your receipts for any major purchases you made during the year and paid sales tax on. However, if you purchased a vehicle and paid a sales tax that was higher than the general sales tax for the state, you can only deduct the difference of the amount above the general sales tax rate.
General sales taxes on payments for leased vehicles are deductible.
Sales taxes paid on items that you use in your trade or business are not deductible. They must be included with the income and expenses filed on the tax returns for your business.
State and Local Real Estate Taxes
You can deduct real estate property taxes if they are assessed uniformly across a community and are used for governmental purposes. The IRS allows you to deduct taxes on such properties as:
- Primary homes
- Second homes
- Co-op apartments
- Taxes on repair and maintenance of sidewalks, streets or water and sewage systems
Charges for services, such as trash collection or water consumption, are not deductible.
Taxes on real estate are deductible when they are paid. For example, if you pay your real estate taxes by check twice per year, you deduct the taxes in the year paid.
If your mortgage lender pays your real estate taxes out of an escrow account, the taxes are deductible in the year paid and not when they are collected in your monthly mortgage payments.
You can deduct real estate taxes paid on a second home if you use the home for personal use more than 14 days each year or more than 10 percent of the time that you rent the home. You can even allow your relatives, such as parents and grandparents, to use your vacation home and still qualify as long as you don't charge them rent.
Read More: What is a Simple Tax Return?
State and Local Personal Property Taxes
The IRS allows deductions for personal property taxes on such items as RVs, cars and boats. Qualifying taxes must be:
- Levied on personal property
- Based on the value of the property
- Imposed annually
You may be able to deduct a portion of the annual registration fee for your car if part of the fee is based on the car’s value, not its weight or year of manufacture.
Should You Itemize or Take the Standard Deduction?
As a result of the changes brought by the TCJA, the Tax Policy Institute projects that up to 90 percent of taxpayers will file returns using the standard deduction. Each taxpayer will have to do the calculations for both methods to determine which one gives the better result.
Taxpayers who live in states with high property taxes – such as New Jersey, New York and California – will not be able to deduct as much as they have in the past due to the $10,000 cap. The TCJA is unfavorable to them.
At the other extreme, taxpayers in states with low property taxes, like Alabama with an average property tax of $854 or Colorado with an average tax of $1,076, will not be affected as much by the $10,000 cap on SALT deductions. Taxpayers in these states will be able to take deductions for their home property taxes and still have room to deduct state and local income taxes and personal property taxes.
In the end, each taxpayer has to analyze his own unique situation. Do you live in a high property tax state with high income tax rates? What about the sales tax rate? All these factors must be analyzed when trying to decide whether to itemize or take the standard deduction.
- Tax Policy Center: How Does the Deduction for State and Local Taxes Work?
- 1040.com: Deducting State and Local Taxes
- Bankrate: How to Take Advantage of the Sales Tax Deduction
- Internal Revenue Service: Deductible Taxes
- thebalance: Claiming the State and Local Income Tax Deduction on Federal Taxes
- WalletHub: Property Taxes by State
- Internal Revenue Service: Renting Residential and Vacation Property
- Internal Revenue Service: Sales Tax Deduction Calculator
- IRS. "Topic No. 503 Deductible Taxes." Accessed Oct. 22, 2020.
- IRS. "IRS Provides Tax Inflation Adjustments for Tax Year 2020." Accessed Oct. 22, 2020.
- IRS. "Publication 501 (2019): Dependents, Standard Deduction, and Filing Information." Accessed Oct. 22, 2020.
- IRS. "IRS Advisory: Prepaid Real Property Taxes May Be Deductible in 2017 if Assessed and Paid in 2017." Accessed Oct. 22, 2020.
- IRS. "Sales Tax Deduction Calculator." Accessed Oct. 20, 2020.
- Tax Foundation. "How the State and Local Tax Deduction Interacts With the AMT and Pease Limitation." Accessed Oct. 22, 2020.
- IRS. "My Spouse and I Are Filing Separate Returns. How Do We Split Our Itemized Deductions?" Accessed Oct. 22, 2020.
- IRS. "2018 Instructions for Schedule A." Page 1. Accessed Oct. 22, 2020.
- IRS. "Publication 505 (2019) Tax Withholding and Estimated Tax - Community Property States." Accessed Oct. 22, 2020.
James Woodruff has been a management consultant to more than 1,000 small businesses. As a senior management consultant and owner, he used his technical expertise to conduct an analysis of a company's operational, financial and business management issues. James has been writing business and finance related topics for work.chron, bizfluent.com, smallbusiness.chron.com and e-commerce websites since 2007. He graduated from Georgia Tech with a Bachelor of Mechanical Engineering and received an MBA from Columbia University.