State tax law changes impact millions
The tax reform law that will impact 2018 tax returns filed next spring has gotten a lot of attention for the many changes it makes and how widely it impacts taxpayers of all types and incomes. But there are more changes taxpayers face. The federal return, for most people, is only half of the tax preparation experience. States have also been making changes to their tax laws for 2017 and 2018. There are a few trends emerging from the states, including changes to estate taxes; sales tax from out-of-state sellers; tax rates; and education, military and other tax benefits.
Taxpayers should expect even more changes to continue to occur at the state level. Many states begin their state tax returns with an amount calculated on the federal return, such as adjusted gross income or taxable income. Those states need to decide if they will continue to use the federal return as a starting point and if not, how they will change it.
Many taxpayers’ federal taxable income will increase under the tax reform law, even while their taxes owed will decrease. That’s because the new law reduces some deductions and adjustments to income, making taxable income go up. However, taxes will largely go down because tax rates are lower and the value of the child tax credit has increased. Many states have discovered that if they don’t make changes to their tax rates or their references to federal tax law, state taxes will go up. Some states have already projected the change will increase state taxes by hundreds of millions of dollars unless they act.
Until then, Nathan Rigney, Lead Tax Research Analyst at The Tax Institute at H&R Block, weighed in on what has already changed for tax year 2017 and what taxpayers need to know.
1. Several states make changes to 529 plans to save for college
- Minnesota created a new tax credit for contributing to a 529 account. Taxpayers can get a maximum $500 credit for 50 percent of their contributions to any 529 account whether it is a Minnesota plan or another state’s plan.
- Ohio doubled its per-beneficiary deduction for 529 contributions to $4,000.
- Meanwhile, Arkansas reduced the 529 contribution deduction to $3,000 for taxpayers with a plan from another state.
“These changes to state’s 529 plans are especially important in light of the federal tax reform change that makes distributions from a 529 to pay for K-12 education tax free,” said Rigney. “You may not have considered a 529 before but doing so now could mean a lower state tax bill as well as a way to help offset the cost of your child’s public, private or religious elementary or secondary education.”
2. Other education changes include student loan debt cancellation, credits for donations, homeschooling
- Georgia made a change to its qualified education donation tax credit so that taxpayers can get the $2,500 credit for donations to the Public Education Innovation Fund Foundation, which awards grants to public schools.
- Indiana taxpayers can deduct up to $1,000 in homeschool or private school expenses.
- South Carolina increased the refundable tuition credit to as much as $1,500.
- Illinois has started a program that will offer a credit for donations to a scholarship granting organization. Taxpayers can get a credit for 75 percent of their contributions, up to $1 million per return.
- California and New York taxpayers who had student loan debt forgiven may not have to pay tax on the forgiven amount in certain situations.
“There are many different tax benefits for education expenses on the federal return,” said Rigney. “Add to that all the education benefits available at the state level, and it’s no wonder that education is one of the most complicated tax benefits and commonly overlooked.”
3. Earned income tax credit changes
- Hawaii taxpayers who get a federal earned income tax credit (EITC) can also get a state version of up to 20 percent of the amount claimed on the federal return.
- Montana will provide a 3 percent EITC for federal EITC recipients.
- South Carolina will offer a nonrefundable 125 percent EITC for federal EITC recipients.
- Massachusetts will limit the EITC amount that part-year residents can receive. In addition, taxpayers who have changes to their federal returns that reduce their federal EITC will have to repay a portion of the state EITC within a 30-day timeframe to avoid penalties.
“The EITC is a valuable tax credit potentially worth thousands, but one in five eligible taxpayers don’t claim it,” said Rigney. “Because eligibility for the EITC can fluctuate based on financial, marital and parental changes, a taxpayer can be ineligible one year and eligible the next. It is important for workers to check each year if they qualify for the EITC at the federal and state level.”
4. Earned income tax credit changes
- Indiana will increase the income tax deduction for military retirement and survivor’s benefits so less is taxed.
- Michigan will allow taxpayers to deduct their military retirement or pension benefits from their income to avoid tax.
- Montana will exempt compensation for National Guard active duty from taxation.
- New Jersey created a new credit for caregivers of veterans of up to $675 beginning in 2018.
- West Virginia will eliminate a $22,000 cap on the deduction for military retirement benefits beginning in 2018.
“Military families face special tax circumstances that can save them money and relieve some of the burdens of filing. But these benefits can also add complexity to their return and a greater risk of leaving money on the table,” said Rigney. “If military families have questions about their federal or state tax benefits, they should contact their qualified tax professional.”
Rigney advises that there are more changes to state tax laws like changes to savings accounts for people with disabilities, paid family leave, first-time homebuyers and more. He advises that taxpayers should consult a tax professional about their specific circumstances.