“This will probably be a small improvement for many taxpayers,” acknowledges Warwick. “Here’s my fear: When you go back as far as the 1980s, we had really high tax rates but we were deducting things like credit card interest, auto loan interest and other items. Americans were paying higher rates, but had lower taxable income. As time went on, we started to peel back the deductions, but rates went down. In recent years, the deductions have still been peeled back, but rates started to go back up as well. It’s a bait-and-switch. We never got back the deductions.
“We’ll end up getting more taxable income and paying at higher tax rates over time. I’m concerned for the long term on that basis.”
Warwick is also watching Congress's plans to roll back or eliminate the federal estate tax, but moving forward with estate planning under the assumption that the tax will be restored at some point in the future.
The two changes that may make more of an impact than the loss of the state and local tax deduction for PagnatoKarp clients is the limit on the deduction for mortgage interest and the proposed requirement that changes tax loss harvesting strategies. Under the proposed bill, stocks and bonds would have to be sold in the order they were acquired [first in, first out] rather than by which ones are losing money.
The real estate market also will be affected. “People will move because of this,” Pagnato said. “We have already had clients who lived in Maryland move to Virginia to take advantage of lower taxes.” This will exacerbate that trend.
“In the future, investors are going to be even more in tune to tax efficient investing. States may also change taxes to not lose residents,” Pagnato said.
Weinstock Manion, a law firm based in Los Angeles that deals with high-net-worth individuals and families, has received more inquiries about the proposed estate and gift tax changes than the loss of local and state tax deductions, said Jeffrey P. Geida, a lawyer with the firm. “For the most part we are telling our clients to wait to see what is finalized.”