Robert Weinberger at TPC has more detail on the IRS funding woes here – specifically how the appropriations for the agency in the December funding deal simply continue the decade-long problem. Given the amount of added spending authorized in other areas, this is really concerning – it puts revenues at stake, customer service, and the very integrity of our tax system, in my opinion. Sad, as the President would say.
Minnesota pays for its highways, roads, streets, and bridges with dedicated funds. The state collects state taxes, deposits them in funds dedicated to highways and roads, and then uses those moneys for state highways and related costs or pays them to counties, cities, and towns to use for their streets and roads. Small amounts of general fund money are appropriated highways or to pay for state GO bonds that finance local roads and bridges (most state highway bonds are trunk highway bonds and are paid out of the trunk highway fund, a dedicated fund).
The transportation financing debate at the capitol typically focuses on how to augment those dedicated transportation funds – either by increasing already dedicated taxes or by dedicating what are currently general fund revenues to the dedicated transportation funds. Put another way, the debate typically is between two options:
There are really two elements to this debate, which is rarely recognized:
Another way to express the second question is how much highway funding should come from higher or special taxes on drivers and other users or beneficiaries of highways and roads, as compared with the amount everybody pays to fund the general cost of government? This is different from the first issue of whether highway and road funding should have special legal status that makes it harder for a legislature to use those revenues for another purpose. That may be justified to provide stability and reliability or by other considerations. But it is different from the question of who (which taxpayers) should pay for highways, which is what the second question mainly gets at and is always an issue when government activities are funded with dedicated revenues.
In a future post, I will discuss this concept in more detail and explain why I favor raising more money for highways and roads from either user charges (like the gas tax) or benefit taxes (like the registration and wheelage taxes) – preferably the former. However, in deciding whether that is the policy you prefer, it is useful to know how much of highway and road costs are now paid by user charges and benefit taxes versus general revenue sources.
I have not seen an analysis breaking down Minnesota’s highway and road funding along those lines – that is, distinguishing user charge and benefit tax sources from general purpose revenue sources. House Research has a publication that identifies the sources of revenue the state uses for highways, but it does not break those sources down by whether they are user charges or benefit taxes, rather than general revenue sources. Some other organization may have done that analysis, but couldn’t find it. To fill this gap, I did some back of the envelop calculations, using readily available data of these amounts, which are shown in the table below.
Disclosure: This is not my area of expertise. When I worked for House Research, I generally relied on transportation finance specialists or fiscal analysts (or DORReserch ) to do this type of analysis. If I undertook to do it myself (as I occasionally did to test the financial feasibility of policy options), the experts usually pointed out mistakes I had made because I didn’t understand the nuances of the data or rules. So, caveat emptor, but the purpose is just to provide a big picture impression. If I’m off by a $100 million or $200 million, it shouldn’t really matter much.
My tabulations (see below) suggest that Minnesota funds most of its highway and road costs (about 3/5th) with general purpose revenues, not user charges or benefit taxes. I think that augments the case for raising any new revenues from user charges or benefit taxes, preferably by increasing the gas tax. As I outlined in another post, the failure to index the gas tax has caused inflation to erode its revenues substantially, providing a mindless, auto-pilot tax cut. Since the 1988 increase in the gas tax rate, inflation has provided buyers of motor fuels over a $6 billion tax cut by my calculations!
| Funding source | FY 2018 amount (millions) | % of total |
| General revenue sources | ||
| Motor vehicle sales tax | $463.4 | 15.6% |
| Sales tax – leased vehicles, repair parts, etc. | 84.8 | 2.9% |
| Tax expenditure – motor fuels exemption from sales tax | 475.6 | 16.0% |
| General fund appropriation | 15.0 | 0.5% |
| Local property taxes | 716.3 | 24.2% |
| State bonds (other than trunk highway) | NA | |
| TOTAL | $1,755.1 | 59.2% |
| User charge and benefit tax sources | ||
| Motor fuels tax above value of sales tax exemption | 427.1 | 14.4% |
| Registration (tab) tax | 781.9 | 26.4% |
| County wheelage taxes | 42.4 | 1.4% |
| TOTAL | $1,209.0 | 40.8% |
My assumptions and how I did the calculations. Dedication of the motor vehicle sales tax (under a constitutional amendment approved by the voters in 2006) and of other components of the general sales tax (statutory dedications) are obviously general revenue sources, in my mind. That is so, because the sales tax is in principle a general consumption tax that funds the general government costs. Dedicating revenues from components that somehow relate to highway use (sales tax on vehicle purchases, for example) does not change the tax’s character as a general revenue tax. It would be like claiming the income taxes paid by Uber drivers are transportation benefit taxes or user charges; they obviously are not.
It’s worth noting that the statutory dedication of sales tax money was not fully phased in for FY 2018, so that will cause the FY 2020 general revenue share to rise a little bit compared to the percentages in the table for FY 2018, all else equal. The sales tax amount will probably double or close to it.
The tax expenditure for the sales tax exemption for motor fuels requires a little more explanation. When the gas tax was enacted in 1925, there was no general sales tax. At that point, the tax was entirely a user charge; it was an additional or special tax imposed on sales of fuels used in highway vehicles. Almost no other purchases were subject to a similar tax (exceptions: the sin taxes and insurance purchases). Because it was roughly proportionate to the miles driven (obviously varying based on the fuel efficiency), it can be fairly characterized as (and widely is characterized by public finance economists as) a user charge. But when the general sale tax was enacted – obviously as a broad-based revenue source to finance general government – the legislature exempted motor fuels that were subject to the excise tax from the sales tax. (Off-road purchases, such as for farm and construction equipment, were subject to the sales tax, not the gas tax.) At that point, some of the gas tax lost its character as a user charge – to wit, the value of sales tax exemption that was conferred by paying the tax. (There is a legal question whether revenues from imposing the sales tax on highway fuels would be subject to the constitutional dedication. That is a close question – the AG and legislative lawyers have reached differing opinions. But here I’m talking about economic and fundamental characteristics, not legal issues.) I calculated the amount in the table by taking the gross tax expenditure estimate from DOR’s Tax Expenditure Budget and adjusting it downward for the portion attributable to the Legacy Amendment tax (3/8 of 1%) and for the revenue neutral rate effect (i.e., I assumed taxing motor fuels would be used to reduce the general sales tax rate and revenue from the resulting rate differential should not be counted). This estimate ignores the fact that the exemption also reduces local sales taxes, so it is understated very slightly.
In estimating the property tax share, I took total spending reported by cities, counties, and towns for streets and roads from the state auditor’s reports – both spending for current operations and an allocated share of debt service (based on the share of total debt for streets and road bonds) – and, then, deducted the amount of state aid paid out of the highway funds to counties, cities, and towns. Thus, the assumption is that the residual road spending was funded with property taxes. Obviously, cities could use LGA and counties could use CPA rather than property taxes; since money is fungible, it really doesn’t matter. If they did, then general purpose state aid (funded through the state’s general fund) would have been used, rather than property taxes. In either case, the funding came from general revenues. In addition, I know that some local sales taxes are also fund highway and road improvements. But again, that is unimportant because all I am trying to do is separate revenue sources into two buckets and I believe that the wheelage tax is the only local benefit tax or user charge.
For the wheelage tax, I could not find a state government source for this. The numbers are from a Transportation Alliance publication and are for FY 2019. This is obviously a pretty modest amount.
Note: There is a small (I assume) additional amount of state general fund support for local highways and roads that results from the issuance of regular state GO bonds for local road and bridge projects. The debt service on these bonds is paid out of the general fund. I did not attempt to track down how many of those bonds are outstanding or to estimate the debt service on them. Doing so would increase the general revenue share somewhat. Most state bonds are trunk highway bonds and are paid by the trunk highway fund, which is accounted on the revenue side.
Bottom line: Most public funding of highways, roads, and streets in Minnesota is done with general revenues. They are dedicated by law, but their fundamental economic character is as general purpose revenues, not higher or additional taxes that are imposed on users or beneficiaries of highways and roads.
Earlier this week the Taxpayer Advocate released her 2019 report, required reading for a tax nerd like me. As usual, it points out the top 10 “serious problems” with the tax system. The one of these that stands out to me as an existential threat is Congress’s continuing failure to adequately fund the IRS, since the Republicans took over the congressional purse strings in 2010.
Graphs from the report (see below) dramatically show what has been going on – the number of tax returns have gone up by 9%, while the number of employees has dropped by 20%.
Funding in real terms (that is, adjusted for inflation) has dropped by 20% over this period (see graph below).
This actually understates the effects, because the IRS has had in this period to deal with the added administrative burden put on it to largely administer both major parts of the ACA and the TCJA (Trump’s 2017 major tax rewrite). Although the TCJA may have simplified tax filing for many taxpayers through its expansion of the standard deduction, it constituted a large increase in complexity for the IRS and business taxpayers.
I considered this persistent failure to adequately fund the IRS an existential threat, because the long term effects will undercut (and undoubtedly already are undercutting) the collection of revenues needed to run government, while the degradation of taxpayer service and likely increased noncompliance erode public confidence in the fairness of the tax system. Because states are so dependent on the federal income and corporate taxes for their tax systems, these problems flow through to state and local taxes.
I know that Republicans largely have done this and may still be doing it (even though the GOP controls the executive branch) because they believe that the IRS inappropriately and illegally targeted Tea Party groups seeking tax exempt determination letters. Whether or not that is true is highly debatable. (I have spent a lot of time educating myself about the issue and am dubious as to whether to any great extent this wasn’t simply due to incompetence and bad management rather than playing partisan favorites. There are two IG reports (latest) and a Senate committee report that certainly do not make a strong case for partisan targeting as is assumed by the GOP.) In any case, I don’t see how it justifies putting the nation’s tax system at risk; rather it should have led to addressing the specific problem to the extent there is one. With Republican control of the executive branch (and for 2 years Congress) there is no longer any excuse, in my mind.
Defined benefit pension funding is in trouble all over, not just in Minnesota and many other states but in the private sector and Europe, according to this article in the Financial Times. FT considers the article (originally published in November) one of its 10 best big reads of 2019, so it’s not gated and is well worth reading.
The problem with Minnesota pension funding is obvious to anyone with a minor amount of financial savvy, a combination of (1) a failure to consistently (rarely) make ARCs (actuarial required contributions) and (2) unrealistically high rate of return assumptions that go into calculating the ARCs. That, of course, is not a sustainable situation, so at some point an unhappy day of reckoning will come and compromises will need to be made (some combination of additional contributions and benefit reductions).
The FT article points out a more generalized problem with defined benefit pension funding – that is, bond market returns that are low or nonexistent and (although not explicitly stated in the article, I think) a low or no inflation environment. Low bond returns make it very hard, even for prudently designed and managed pensions, to generate returns to match pension liabilities. This is especially a problem in Europe with its negative interest rates in some countries! The article mainly focuses on the issue of low bond yields. But I think my point (low or no inflation) is also a big component of the problem.
Low inflation is a problem because defined benefit pension plan liabilities are typically in nominal terms, that is they are not indexed to inflation. (There are important exceptions to this, such as the old federal CSRS and some states who foolishly have indexed their benefit formulas to inflation indexes. Minnesota fortunately does not, although it provides an annual, fixed (1% or 2%) benefit increase to retirees.) That means that a modest or greater amount of inflation can typically provide a margin for error, as inflation erodes the value of the benefit payment liabilities and makes it easier for plans to pay benefits.
Actuaries, of course, are aware of this and so attempt to account for inflation’s effects in their estimates either implicitly (in various growth assumptions and investment returns) or explicitly (less sure the extent to which they do that). So the real issue is whether inflation is exceeding the net effects of those actuarial assumptions.
The effects on actuarial estimates can move in both directions (e.g., benefits are based on wages, so wage inflation can drive up future benefits (liabilities), but inflation that increases inflation-adjusted investment returns and concurrently erodes the value of nominal benefits can may it easier to pay unindexed, current retiree benefits). My strong intuition (without attempting to dissect Minnesota’s actuarial formulas) is that a modest amount of inflation (3% to 5%) would materially help out Minnesota’s funding IF the investment return on stocks and bonds can come close to the rate of return estimate, on an inflation adjusted basis. That would provide a substantial discount in paying retiree benefits. Greater longevity means that the plans are paying benefits for longer periods, so inflation above the actuarial estimates should be a big help.
Another way to gain an insight about these effects is to consider the 1970s. With regard to investment returns, the 1970s were a lost decade of sorts – just plain awful for stock and bond returns. One would assume low investment returns would be really bad for pension funding and it sort of was. But rising inflation, although temporarily depressing bond values, providing an important offsetting effects by discounting fixed liabilities (i.e., amounts of future pension payments set in the previous low inflation environment) and by ramping up the nominal bond yields on new money or reinvested bond principal. That made it a much easier environment for defined benefit pension managers to deal with than the current environment.
In any case, interest rate policies in Europe and (to a lesser extent) in America have clearly hurt significantly the financial viability of defined benefit plans, as the FT article makes abundantly clear. This is an unintended side effect of low-interest macro-economic policies, I guess – particularly if they affect long bond rates, not just the short term rates that central banks are typically assumed to control. And the adverse effects on defined benefit pension funding is an unappreciated side effect of declining and/or persistently lower than expected inflation, which typically is widely perceived to be a good thing so long as deflation is avoided. Modest inflation provides a useful financial lubricant of sorts.
Sooner rather than later, the legislature will need to address how to finance transportation – both highways and transit. This has been an ongoing and highly politicized discussion that appears unlikely to have an easy resolution as long as Minnesota has divided government. At the core of the problem with highway finance, in my view, is the basic structure of the gas tax – a fixed dollar amount per gallon of motor fuel – whose revenue yield has been eroded by inflation as a result.
The gas tax has been the centerpiece of Minnesota highway finance for nearly a century. But the tax’s structure requires ongoing legislative maintenance – regular adjustment of the rate to offset the effects of price inflation. Political polarization and/or changing political values (by Republicans mainly) have effectively made that difficult, if not impossible, for the last two to three decades. In my view, that state of affairs has largely creating the highway funding crisis in which the state is mired.
The gas tax equals a fixed dollar amount (currently, 28.5 cents) per gallon. What that means is that as prices increase with inflation, the real rate of the tax declines. Inflation provides an automatic tax cut, which also reduces the revenues for constructing, reconstructing, and maintaining highways. (The constitution has an ironclad requirement to use gas tax revenues only for highways and roads.) Policymakers and the media wring their hands over the effects of more fuel efficient vehicles and electric vehicles as causing a problem, since these vehicles use less or no taxable gasoline or diesel fuel. (EVs are a minuscule percentage (<1% of new sales!) of the fleet using highways. That will change but it will likely take a very long time.) But that effect pales relative to the impact of inflation and the failure of the legislature to regularly increase the tax to keep pace.
The table below shows how inflation has affected gas tax rates over time. The gas tax was enacted in 1925 at a rate of 2 cents/gallon. The legislature has increased the tax rate 12 times since, most recently in 2008. The table shows what the rate would have been in each year of rate increase in 2019 dollars (adjustment was made using the consumer price index) and how much the tax was as a percentage of the retail price of gasoline. That approach (imposing the tax as a percentage of the sale price) would avoid the need to adjust the rate, because it would go up or down with the price of the gas (or diesel fuel); that is why it is unnecessary to index the sales tax.
| Year of rate increase | Tax rate when enacted | Tax rate in 2019 dollars | Enacted rate as % of price |
| 1925 | $0.02 | $0.29 | 9.1% |
| 1929 | 0.03 | 0.45 | 14.3% |
| 1941 | 0.04 | 0.70 | 21.1% |
| 1949 | 0.05 | 0.54 | 18.5% |
| 1963 | 0.06 | 0.50 | 19.4% |
| 1967 | 0.07 | 0.54 | 21.9% |
| 1975 | 0.09 | 0.43 | 17.0% |
| 1980 | 0.11 | 0.34 | 12.8% |
| 1981 | 0.13 | 0.37 | 10.9% |
| 1983 | 0.16 | 0.41 | 13.1% |
| 1984 | 0.17 | 0.42 | 14.7% |
| 1988 | 0.20 | 0.43 | 22.2% |
| 2008 | 0.29 | 0.34 | 8.7% |
| 2019 | 0.29 | 12.1% | |
| Average | 0.44 | 13.3% |
The current tax rate (28.5 cents) equals the original tax rate enacted in 1925 updated to 2019 dollars. If the tax rate were simply the average of the rates enacted by 13 legislatures (44 cents in 2019 $), that would go a long way to providing adequate highway financing. It would be 15.5-cent (or a 50%) increase in the rate compared to present law. Governor Walz proposed a 20 cent increase, phased in, but much of that was required to make up the deficiencies caused by the long running failure of the legislature to keep updating the tax rate for the effects of price inflation. Had the rate regularly been adjusted since 1988 (keeping it at about 43 cents) that probably would have been unnecessary.
Had the tax – like a standard retail sales tax – been imposed as a percentage of the retail price, the picture would have been somewhat less rosy. The tax now is about 12% of the price, which is only a little less than the average (13%) over the period. Note that this approach would impose a stiffer tax on diesel fuel purchases, since the price of diesel fuel is higher than for gasoline. That probably would be justified, since diesel fuel contains more energy and because it is predominantly used by heavier vehicles (trucks, buses, and so forth) that do more damage to roads and highways. That would be consistent with a user fee model of the tax, which it roughly is. A percentage tax would provide a more volatile and less reliable source of revenue. See the graph in this blog post from the US Department of Energy that shows a 75-year history of retail gasoline prices to get an impression of that volatility. A tax based on price would also be less well aligned with a user fee model of the tax, since the burden of the tax would vary quite a bit over time based on world oil prices, rather than following use of roads and highways.
My observations:
Janet Hottzblatt has a good blog post at TPC. The post’s title focuses on how the Sanders and Warren campaigns are the most restrained of the candidates in proposing tax credits, rather than direct spending programs for their policy proposals.
I find her post interesting, however, for three reasons (unrelated to that point but what I suspect is more the real reasons for her post):
My take:
Today’s NYT has an article on TCJA’s effects on corporate revenues. It’s a good read for anyone interested in the tax legislative process, in particular how complicated provisions are interpreted and applied by tax administrators. It’s also depressing in that it strongly suggests that TCJA’s corporate revenue offsets (i.e., the provisions intended to pay for the rate cuts) will likely yield much less revenue than originally estimated. In other words, TCJA will increase that deficit by more than Congress intended.
The article covers Treasury’s and the IRS’s implementation of two of TCJA’s most important revenue offsets (at least on the corporate side) through the process of writing regulations: GILTI and BEAT, provisions that are designed to minimize the artificial shifting of domestic corporate profits to low tax foreign countries. In both instances, the provisions impose minimum or low rate taxes on that income.
The article describes how big companies (both US and foreign – GILTI mainly applies to US based companies and BEAT to foreign-based companies) lobbied Treasury for regs that undercut the revenue yield of the two provisions. As one can imagine, the lobbying process was intense. The article suggests that in some instances top Treasury officials found the “nonstop meetings” (sometimes 10/week) with lobbyists so time-consuming that they “had little time to do their jobs, according to two people familiar with the process.”
One of the results (with regard to BEAT) that the article cites was creating an exemption to BEAT for foreign banks. The article suggests (citing JCT estimates) the exemption could reduce revenues from BEAT by $50 billion (I assume over 10 years – the article doesn’t say), about one-third of the estimated revenues from BEAT. It also cites experts (e.g., a U of Houston law professor) that the exemption was created out of whole cloth and may not be consistent with the law and apparently was controversial among Treasury officials. My observation: that may be true, but is legally irrelevant, since no one will have standing to challenge its legality in court.
The article includes the usual anecdotes on the revolving door – essentially, lawyers that represent the big multinationals and write the regulations, as they shuttle between big law firms and government service. I never know how much to make of that, although it does raise one’s suspicions. Full disclosure: I have personally dealt with one of the reporters (Jesse Drucker) back when I was working and he was a reporter for the WSJ covering state taxes. He tends to be a little sensational and views most corporate actions through a dark lens. (He’s not bad on that score as David Cay Johnston, though, and is much more careful with his facts and sourcing interpretations to real experts.)
Some of my observations and the Minnesota SALT angle:
The Tax Policy Center (TPC) has a nifty website for anyone who wants to track the tax proposals that the presidential candidates have made. The site allows you to look by candidate, by tax type, or by issue area. It covers candidates from both parties, although it is fair to say that most of the proposals are made by legion of Democratic candidates.
The site is extensive, but I would not assume it is comprehensive. For example, it does not appear to include Andrew Yang’s proposed tax on state and local business location incentives that I previously posted about. Tracking down all the proposals would require a herculean effort that inevitably would miss some. But I have a lot respect for the efforts of whomever is assembling all of this data; clicking on the links sends to you a wide variety of sources beyond candidate websites and issue papers (e.g., media stories).
The proposals run from major structural changes (raising rates, imposing carbon taxes or fees, VATs, equalizing the taxation of capital gains and investment income with ordinary income, etc.) to the mundane (tax credits for any and every little thing, like gym dues).
A few of proposals I found interesting after spending less than an hour surfing the site and/or its links:
There are more interesting proposals that make it worthwhile looking at the TPC page if (like me) that’s the sort of thing that turns your crank. But it can be depressing – at least to me – because so many candidates favor multiple (often hair-brained, to be charitable) tax expenditures. Biden, in particular, appears to love business tax incentives. If many of the candidates had their way, the tax code would be littered with even more tax expenditures that the surfeit it already has. Not a good thing.
The pending tax legislation, poised to pass Congress as part of the 2020 budget deal, includes the SECURE Act, which makes a number of retirement tax changes. Among those are two consequential changes in the required minimum distribution (RMD) rules for IRAs and other qualified plans like 401(k)s:
As I noted in a previous post, these provisions will automatically decrease (#1) or increase (#2) Minnesota state income tax revenues, just as they will have those same effects on federal revenues. I assume Congress was using #2, the new limits on stretch IRAs, as a way to offset the revenue losses under other SECURE Act provisions. But I’m perplexed as to the policy rationale for increasing the minimum age for RMDs.
Congressional documents do not state a rationale. One might guess that it was based on a concern that more people are working after 70.5 and so should not be required to start taking IRA distributions until later. Or that some individuals with small IRAs should not be required to start draining them if they have other resources, such as wages or pensions. (My cynical view: the financial institutions who receive fees for holding and managing retirement accounts likely lobbied for the change. Because of those fees, they surely view policies that augment balances in those accounts, such as looser RMD rules, to be in their interest.)
If either of those were the rationale, Congress should have limited the age increase to individuals who still have material labor earnings or small IRA balances (e.g., less than $200k or something like that). (RMDs don’t apply to a 401(k) if you’re still working for the employer.) That would have prevented the main effect of the change – which seems nonsensical to me – giving holders of large IRAs who don’t need to take distributions one or two more years of tax deferral.
Most IRA holders don’t have the luxury of deferring distributions until RMDs apply; they need to take money out of their IRA to live on. The age increase will mainly be a boon to upper income IRA holders. By contrast, the limits on stretch IRAs move in the opposite direction, since this modestly reduces the income tax benefits of inherited IRAs, especially for younger beneficiaries. One would assume that disproportionately will hit heirs of those with big IRAs.
In other words, Congress seems to pushing policy in opposite directions with its two RMD policy changes. One rationale for RMDs is to prevent affluent individuals from just stockpiling money, tax deferred in their IRAs and, then, passing them on to their heirs. (Treasury regulations describe the purpose of RMDs as “to ensure that the
favorable tax treatment afforded a qualified plan is used primarily to provide retirement
income to a participant and a designated beneficiary, rather than to increase the estate
of a participant.”) The taxes would be deferred longer (without RMDs or with lower RMDs), and the heirs frequently will be in lower tax brackets to boot. Here, the age increase allows deferring more taxes by the IRA holder, while the limits on stretch IRAs require heirs to pay their taxes more quickly.
To me, a couple of interesting elements of the age change are (1) going to a full year (age 72) rather than a half year (70.5) and (2) the likely unintended effect on qualified charitable distributions for some in the year when they turn 72.
Going to a full year means that people born after July 1, 1949 with birthdays in the first half of the calendar year will get two extra years of deferral, while those with birthdays in the second half of the year will only get one more year. I’m not sure why the current regime uses 70.5 years (rather than 70 or 71), since the RMD is set based on the account value at the end of the prior year and distributions can be taken at any time during the taxable year or up until April 1 of the following year. Thus, it isn’t an administrative issue. A little mystery I have never tried to track down. But whatever the reason, Congress has decided to change it.
A quirky effect on qualified charitable distributions (or QCDs) is more concerning and something that I doubt the relevant congressional staffers thought about. The law (not changed by the SECURE Act) allows an individual who is subject to RMDs in a traditional IRA to have distributions (up to $100,000 per year) be paid directly to a charity. Making a QCD avoids the distributions from being included in the IRA holder/taxpayer’s income. That, as has been widely noted, is preferable to making an itemized deduction for a contribution, since it keeps the distribution totally out of your income (e.g., no need to forgo the standard deduction and doesn’t count toward any of the AGI limits, etc.). But in the first year RMDs apply, a QCD can only be made after the taxpayer meets the age requirement. See IRS Publication 590 which (mirroring the statutory language) says “You must be at least age 70½ when the distribution was made.” That will become 72 when the SECURE Act is signed into law. Thus, along with being able to defer taxes longer means that younger IRA holders will need to wait one or two more years before they can use QCD to make their charitable contributions.
Note how this could be a problem if your birthday is late in December. Assume your birthday is on December 30th, which is a Saturday in the year you turn 72. Qualified distributions are made by requesting the trustee of the IRA to cut a check to the charity. That check must be dated on or after the birthday on which you turn age 72 to qualify – i.e., on or after December 30th in this case. That effectively means the QCD will be made in the next calendar year (and tax year for a calendar year taxpayer, which virtually all individuals are). That in itself isn’t a big deal, since RMDs for the first year can be taken up until April 1 of the following year and still meet the requirement. (Unlike claiming an itemized deduction for a charitable contribution, it doesn’t need to be made in the taxable year. All you are doing is keeping the distribution out of your income.) Thus, the charity can receive the check in the next calendar year and the taxpayer can still exclude it from his or her income, IF the April 1st deadline is met AND the taxpayer gets a qualifying receipt from the charity. That is where the rub may come in, since charities typically issue those receipts on a calendar year cycle. They may have to make adjustments to accommodate people with birthdays very late in the calendar year who become subject to RMDs in that calendar year, so they can satisfy the IRS documentation requirements.
One might assume that it is concerns like this that led to the use of half year (70.5) rule. But 70.5 age was set well before QCDs were even a thing.
Congress could fix this by allowing QCDs to be made any time a qualifying RMD can be taken (i.e., at any time during the taxable year when the taxpayer becomes subject to RMDs). Why Congress required taxpayers to meet the minimum age requirement before making a QCD when a similar requirement does not apply to RMDs themselves is unclear to me.
Dated: December 19, 2019
The congressional budget deal will breath continued life into the now slimmer, but still robust, list of tax extenders. These are provisions that Congress has been extending for 1 or 2-year periods for years, rather than making them permanent or allowing them to die a dignified death. (In 2018, Congress did make others of the extender list permanent.)
Congress has long been playing this extender game because the budget rules require 10-year scoring of permanent provisions, while 1-year or 2-year (temporary) provisions appear to cost only 10% or 20% as much. Of course, since the provisions inevitably get extended by later congresses and presidents, that’s an illusion at best. A full employment practice for lobbyists. Given that both parties now appear to eschew almost any concerns about deficits, one would think they could get beyond that, but apparently not.
In the case of the ACA’s previously delayed pay-for taxes (medical device tax and Cadillac tax on high cost health plans), Congress took the other tack of permanently repealing those taxes, bowing to the inevitable. That’s a much bigger budget deal (North of $370 B over the 10-year window). Joint Committee Estimates are here.
The deal also includes passing the SECURE provisions, a collection of smallish retirement-related tax changes. These changes will reduce revenues overall and are unrelated to the budget, but the right members of Congress must have felt that they were important enough to include in the budget deal. I’ll write a separate post about SECURE’s changes in the RMD (required minimum distribution) rules for IRAs and other qualified plans, which strike me as unnecessary and I think may have unintended consequences.
Some quick observations (all based on the assumption that this budget deal gets enacted into law as written – i.e., that Trump doesn’t decide to shut down government as he did with the last year’s iteration):
Bottom line: well intended budget rules (here, requiring 10-year scoring) has unintended and stupid consequences. The beat goes on.
SALT Speak - Joel Michael's Blog 