A Move to Curb State Tax Reform Workarounds
From the beginning, any revisions to the tax code were likely to include cuts to the federal state and local tax deduction. It's led to some hand-wringing among state and local leaders who say losing the deduction for their taxpayers will ultimately make it more difficult to raise taxes on them in the future.
This week, a compromise has emerged. The GOP bill now being negotiated proposes capping taxpayers’ deductions at $10,000 -- for either property taxes, state and local income taxes, or sales tax. It represents an expansion of the original proposal, which only allowed taxpayers to deduct up to $10,000 in property taxes.
The Takeaway: The shift was pushed for in large part by California Republicans, whose taxpayers tend to have a high income tax rate and artificially low property tax rate. But expanding the deduction from the original proposal could also potentially prevent states from trying to game the system next year.
A recent joint report by more than a dozen tax scholars and analysts suggested a few ways governments might try to shift toward other deductible taxes if taxpayers are no longer allowed to subtract income or sales taxes. Suggestions included instituting a state property tax while cutting back on income tax rates, and implementing a state payroll tax, which is deductible for employers, in place of an income tax.
The authors also suggested raising the cap past $10,000. That's likely because simply expanding the deduction will benefit a relatively small number of taxpayers. For example, an estimate this week by the Center on Budget and Policy Priorities found the new GOP compromise bill will reduce taxes for 200,000 more Californians than under the previous version. But 2.14 million middle- and upper-middle-income Californians would still get a tax hike.
A Scramble to Sell Muni Bonds
While there's still hope that federal tax revisions will retain a highly valued tax deduction for certain municipal bonds, governments that issue them aren’t taking any chances. Over the last few weeks, there’s been a surge in the number of requests for bond identification numbers, called CUSIPs, for two types of bonds potentially facing cutbacks.
A request for a bond identifier is a signal that a government is getting ready to issue new bonds. According to CUSIP Global Services, a total of 1,220 municipal bond identifier requests were made in November, an increase of 20 percent from October. The firm attributes much of the increase to proposals by Congress to eliminate advanced refunding and private activity bonds.
Private activity bonds, which represented between 25 and 35 percent of issuance last year, allow governments to take out tax-exempt municipal bonds for projects built and paid for by a private developer. They are commonly used to finance housing projects and hospitals. Advanced refunding bonds, meanwhile, let governments refinance debt earlier than most terms allow to start saving sooner with lower interest rates.
The Takeaway: The House and Senate are currently reconciling their tax reform bills. In the latest version, private activity bonds are preserved while advanced refundings are eliminated. As a result, observers expect issuance to continue to pick up as the year -- and potential savings opportunities --comes to an end.
Finicky Investment Fees
It’s been tricky for pension funds to figure out exactly how much they’re paying Wall Street managers to oversee their investments in hedge funds and private equity. Two events this week show a pension fund’s response to those figures can be even trickier.
The board of the Pennsylvania Public School Employees' Retirement System approved a plan to reduce investment fees paid to external managers, among other cost-saving initiatives. The vote came just months after the Pennsylvania State Employees’ Retirement System voted to do the same. Both boards were urged to cut investment costs in a letter earlier this year from State Treasurer Joe Torsella and Gov. Tom Wolf. In September, a report found that the state employees' fund alone had paid $858 million in management fees since 2012, a figure Torsella described as "outrageous."
Meanwhile, Nashville has learned that its public employees' fund has spent 40 percent more in fees than it had disclosed previously. The new $39 million figure represents 1.3 percent of its assets in fiscal 2017 and includes previously undisclosed costs for private equity funds and other alternative investments. Despite the fact that the fee costs were far higher than the average pension fund, the Nashville Tennessean reports that fund officials were largely dismissive of the number.
The Takeaway: Digging into the true cost of alternative investments often results in dramatic figures like Nashville’s. A Pew Charitable Trusts report earlier this year on the topic estimates that $4 billion in investment fees go unreported each year.
The different reactions between Pennsylvania and Nashville is likely to do with funding and other pressures. Nashville’s public employee’s fund is robust, with more than 95 percent of the assets it needs to meet its future liabilities. The city has a growing and healthy economy. Pennsylvania’s two state pension plans, on the other hand, are about 60 percent funded and the state has faced chronic cash shortages and budget shortfalls.
To read this regularly, subscribe to "The Week in Public Finance" newsletter for free.