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City officals say tax proposals hit them hard

November 1, 2005

By David Lawder

WASHINGTON (Reuters) – A bipartisan tax panel’s proposal to
end federal deductibility of state and local taxes drew sharp
criticism on Tuesday from local government officials and
advocates, who labeled it a middle-class tax increase.

The White House-appointed tax panel delivered its proposals
to void many tax deductions and lower tax rates to Treasury
Secretary John Snow on Tuesday.

The report will serve as groundwork for the Bush
administration’s own proposals to make the U.S. tax system
simpler and more efficient.

“It’s effectively a tax increase for a pretty wide swath of
middle class America,” said Patrick O’Reilly, a city council
member in Scarborough, Maine, with about 20,000 residents.

City leaders argued that the panel’s recommendation to
repeal the deductibility of state and local taxes will
effectively increase the cost of local government services,
particularly in higher tax states that rely heavily on income
taxes, such as New York, Massachusetts and California.

Officials were relieved that the panel recommended no
change for tax-exempt status of municipal bonds, which are the
primary financing tool for local and state government entities.

The move to eliminate deductibility of state and local
taxes has been closely linked with the panel’s recommendation
to eliminate the alternative minimum tax (AMT), as they would
roughly balance each other out in the “revenue-neutral”
recommendation.

The AMT was instituted in 1969 as a means to ensure that
wealthy individuals with many deductions pay at least some tax.
But a measure limiting the AMT is due to expire in 2006,
potentially exposing a much wider segment of taxpayers to the
levy. As more Americans pay AMT, they would lose the benefit of
deductions for state and local taxes.

However, the proposal represents cost-shifting to states
and local communities, in much the same manner that Medicaid
costs are increasingly being borne by states, said Iris Lav,
deputy director for the Center for Budget and Policy
Priorities, a liberal research group.

“It’s one more pullback of the federal government and it
will make it more difficult for state and local governments to
provide services,” she said.

The proposal offers some items that would allow states and
cities — along with the federal government — to broaden their
tax bases, such as capping deductions for home mortgage
interest and taxing employer-paid health benefits above
$11,500.

But these proposals will likely face a huge amount of
political opposition, Lav said, increasing the likelihood that
the tax panel’s proposals will be “cherry picked” for
easier-to-pass items.

Sen. Max Baucus of Montana, the top Democrat on the Senate
Finance Committee, said some ideas, such as the cap on tax-free
employer-paid health benefits, were unattractive, but he
endorsed the idea of eliminating the AMT.

The National League of Cities has advocated reforming the
AMT to return it to its original purpose of ensuring wealthy
individuals pay tax, not eliminating it.

“Eliminating the AMT is like giving an ATM to the
wealthiest while making the middle-class taxpayer pay for it,
said Brian Murphy, a member of the Cambridge, Massachusetts,
city council.

He called the panel’s proposal “A shell game.”

“They offer you a lower rate at the federal level but then
slap you with double taxation at the state and local level.
Ultimately it all comes out of the same wallet,” he said,
adding it will reduce income that can be spent in the local
economy and increase political pressure to reduce local taxes.




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