The new tax bill hits residents of wealthy Blue-state jurisdictions like Montgomery County hard. The IRS said it would disallow moves by local government to accept prepayment of real estate taxes for 2017 tax year deduction purposes. Hal Ginsberg (a former lawyer, but never a tax lawyer) notes "The IRS did not explain its reasoning, which is understandable since the law specifies just the opposite."
/By Hal Ginsberg/ The December 2017 Republican tax legislation (2017 Law) caps at $10,000 the aggregate amount taxpayers can deduct for real property and State And Local income Taxes (SALT) starting in 2018. Previously, there was no cap except for those paying the Alternative Minimum Tax (AMT) who could not deduct property taxes or SALT from Adjusted Gross Income (AGI).
In response to this change in the law, many homeowners -- in jurisdictions that allowed it -- prepaid or tried to prepay their anticipated 2018 property taxes. Such homeowners intended to reduce their taxable income by these December 2017 payments in their 2017 tax returns. Affluent residents in jurisdictions that had not previously accepted prepayments petitioned for the right to do so.
In my home Montgomery County, MD, the County Council enacted emergency legislation on Tuesday, Dec. 26 directing its Treasury to accept real property tax prepayments. There was no legislative push, however, to permit SALT prepayments because the 2017 Law provides that all SALT shall be deemed for tax purposes to have been paid at the end of the year in which they are due.
The following evening - Wednesday Dec. 27 - the Internal Revenue Service issued an advisory that it would it disallow deductions on 2017 returns for real estate taxes prepaid in 2017 based on anticipated future assessments. Only taxes paid on current assessments would be deductible said the federal tax agency. The IRS did not explain its reasoning, which is understandable since the law specifies just the opposite.
The Internal Revenue Code clarifies at 26 U.S.C. § 164 (1986) (emphasis supplied):
(a) General rule - Except as otherwise provided in this section, the following taxes shall be allowed as a deduction for the taxable year within which paid or accrued:
(1) State and local, and foreign, real property taxes.
The 2017 Law, however, explicitly limits the deductibility of any SALT to the year in which they are due to be paid by modifying the section quoted above. In specific, “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.” December Law § 11042.
By contrast, Congress did not enact an analogous limitation on the deductibility of paid real estate taxes to the year in which the tax is “imposed” or assessed. Therefore, the Internal Revenue Code would appear to require the IRS to permit taxpayers to deduct the entire amount of real estate taxes paid in 2017 even if some or all of those taxes are to satisfy a future assessment.
IRS advisories lacks the force of law and the Service may change its position at any time. Federal courts will almost certainly have the final say. Time will tell whether the IRS’s current interpretation will prevail. For now, prepaying homeowners can take comfort in the fact that the plain language of the law is on their side.
Disclaimer: The author is a law school graduate and former litigator who left the profession, is no longer licensed to practice law, and never practiced tax law. He is offering a lay analysis only which is not to be considered to be legal advice of any kind.
Hal Ginsberg is a regular contributor to the PM BlogSpace and a Montgomery County activist. He blogs at http://halginsberg.com/