Prepaying State and Local Taxes in 2017

Don’t bother. 

The Tax Cuts and Jobs Act generally eliminates the deductions for state and local property taxes, income taxes, and sales taxes. Starting in 2018, an individual will only be able to deduct these items if they are paid or accrued in carrying on a trade or business or an activity for the production of income.

This rule is subject to the following exception. A taxpayer may claim an itemized deduction of up to $10,000 ($5,000 for married taxpayer filing a separate return) for the aggregate of:

  • State and local property taxes not paid or accrued in carrying on a trade or business, or an activity for the production of income, and
  • State and local income, war profits, and excess profits taxes (or sales taxes in lieu of income, etc. taxes) paid or accrued in the taxable year. 

Due to the reduction in value of this deduction, some taxpayers may be tempted to accelerate payment of their 2018 state and local taxes.  Will this work? Not for income taxes:

The conference agreement also provides that, in the case of an amount paid in a taxable year beginning before January 1, 2018, with respect to a State or local income tax imposed for a taxable year beginning after December 31, 2017, the payment shall be treated as paid on the last day of the taxable year for which such tax is so imposed for purposes of applying the provision limiting the dollar amount of the deduction. Thus, under the provision, an individual may not claim an itemized deduction in 2017 on a pre-payment of income tax for a future taxable year in order to avoid the dollar limitation applicable for taxable years beginning after 2017.

The actual statutory language is as follows:

For purposes of subparagraph (B), an amount paid in a taxable year beginning before January 1, 2018, with respect to a State or local income tax imposed for a taxable year beginning after December 31, 2017, shall be treated as paid on the last day of the taxable year for which such tax is so imposed.

UPDATE 1: Paying 2017 state and local taxes this year, even though they may not be payable until next year, still appears to be a viable strategy to avoid the $10,000 state and local tax deduction limitation that applies starting in 2018 under the Tax Cuts and Jobs Act.

UPDATE 2: Here is the full text:

SEC. 11042. LIMITATION ON DEDUCTION FOR STATE AND LOCAL, ETC. TAXES.

(a) IN GENERAL.—Subsection (b) of section 164 is amended by adding at the end the following new paragraph:

(6) LIMITATION ON INDIVIDUAL DEDUCTIONS FOR TAXABLE YEARS 2018 THROUGH 2025. In the case of an individual and a taxable year beginning after December 31, 2017, and before January 1, 2026—

(A) foreign real property taxes shall not be taken into account under subsection (a)(1), and

(B) the aggregate amount of taxes taken into account under paragraphs (1), (2), and (3) of subsection (a) and paragraph (5) of this subsection for any taxable year shall not exceed $10,000 ($5,000 in the case of a married individual filing a separate return).

The preceding sentence shall not apply to any foreign taxes described in subsection (a)(3) or to any taxes described in paragraph (1) and (2) of subsection (a) which are paid or accrued in carrying on a trade or business or an activity described in section 212. For purposes of subparagraph (B), an amount paid in a taxable year beginning before January 1, 2018, with respect to a State or local income tax imposed for a taxable year beginning after December 31, 2017, shall be treated as paid on the last day of the taxable year for which such tax is so imposed.

(b) EFFECTIVE DATE.—The amendment made by this section shall apply to taxable years beginning after December 31, 2016.

For more on the Tax Cuts and Jobs Act, click here.

Source: Tax Cuts and Jobs Act, pp. 87 – 88; Joint Explanatory Statement of the Committee of Conference, p. 78 (pdf)

Posted by: Joel D. Roettger, JD, LLM, EPLS

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