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States May Rethink TCJA Conformity To Save Budgets, Panel Says

By Paul Williams · October 27, 2020, 8:12 PM EDT

The number of states that have decoupled from tax breaks in the federal coronavirus relief law may foreshadow a willingness for states to rethink conformity to the 2017 federal tax overhaul to raise revenue, tax conference panelists said Tuesday.

That several states have refused to conform to certain Coronavirus Aid, Relief and Economic Security Act provisions could signal that conformity considerations to the 2017 Tax Cuts and Jobs Act might follow, according to panelists at a conference hosted by the Paul J. Hartman State and Local Tax Forum. Decoupling from certain TCJA provisions reduces tax revenue, and states could weigh maintaining conformity with the law or undoing decoupling to help shore up their coffers amid the pandemic, the panel said.

Jess Morgan, a senior manager at EY, noted that some states have gone out of their way to decouple from the CARES Act's increase of the 30% deduction cap on business interest expenses under Internal Revenue Code Section 163(j) to 50%. The 30% limitation was part of the TCJA, and states' resistance to raise the limit during the pandemic could show that others might hit the brakes on decoupling altogether from that provision of the 2017 federal law, she said.

"I don't see that as being a favorable indication that we are going to see a full decoupling, at least not in the next couple of cycles," Morgan said.

Morgan was responding to a question from Marilyn Wethekam, a partner with Horwood Marcus & Berk Chtd., who asked if states might reverse their decoupling from the TCJA to address revenue and budget issues that resulted from the virus. Usually held annually in Nashville, Tennessee, the tax conference is online because of the novel coronavirus pandemic.

New York and North Carolina are among the states that decoupled from the CARES Act's increased business interest expense deduction cap and other tax break provisions that they found too costly during the economic downturn caused by the spread of COVID-19, the respiratory illness caused by the virus.

Morgan said those actions highlighted an about-face from a trend that appeared to gain traction at the start of the year, where even more states seemed poised to decouple from Section 163(j). She pointed to a task force in Alabama that suggested Section 163(j) decoupling among a host of other tax-related legislation, but the proposal fizzled as the virus truncated the state's legislative session.

One outlier is Iowa, which enacted a bill in June to decouple from Section 163(j), which shows the virus may not affect the federal conformity conversations in all states, she said.

Charles Britt, a partner at RSM US LLP, however, agreed that states will shy away from further decoupling from the TCJA. He said New Mexico decoupled from the CARES Act after determining that passing along the tax breaks at the state level were too expensive, and other states have made clear that their budgets are a strong factor in their choices to conform to federal law.

"When you couple the recession that we're seeing economically and the revenue losses states are going to be feeling, I think it's going to be unlikely that we're going to see a lot of taxpayer friendly opinions being enacted," Britt said.

Wethekam also asked whether states may undo a decoupling of the TCJA's global intangible low-taxed income provisions, but the panel didn't indicate that they thought any such changes were on the horizon.

GILTI was meant to target income earned from intangible assets — such as patents or other intellectual property — in jurisdictions with low tax rates. GILTI, or foreign income above 10% of a company's foreign depreciable tangible assets, is taxed at the federal level at 10.5%, or half of the overall 21% corporate tax rate. Many states have decoupled from GILTI, and some practitioners believe that those states that haven't are on shaky legal ground in taxing the foreign income.

Morgan said that because a majority of states have decoupled from GILTI, she's confident that trend will continue regardless of the virus, particularly because many states don't tax foreign dividends.

--Additional reporting by Natalie Olivo, Maria Koklanaris and Abraham Gross. Editing by Joyce Laskowski. 

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