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How Would Expiration of Bush-Era Tax
Cuts Affect State and Local Budgets?
• Many state income tax systems piggy-back off the federal income tax. Due to potential changes in federal taxable income,
adjusted gross income, child tax credits and earned income tax credits, states that are linked closely to the federal tax code will
see an automatic uptick in revenue if the Bush tax cuts expire.
• The handful of states that allow a deduction for federal income taxes paid are likely to see a revenue loss if federal income taxes
increase, even after accounting for other revenue-increasing effects.
• “Interactive” effects from the expiration of the Bush tax cuts, either in January 2011 or some later date after a temporary
extension, include a decrease in the value of the federal deduction for state and local taxes; a reduction in state revenues due to
shrinking income and sales tax bases; and changes in tax planning by filers.
• If the federal estate tax returns there would be an automatic return of the estate tax in many states that are linked to the
federal estate tax.
• Congress’s actions on the Bush tax cuts could affect the federal and state budget conditions in the long term. We briefly discuss
the consequences for states of a possible federal value added tax, the possibility that declining federal credits could hurt the
states’ ability to borrow, and the potential macroeconomic impacts of Congress’ handling of the Bush tax cuts.
While the U.S. economy continues its slow
crawl towards recovery, many states are cur-
rently in budget limbo. Last year’s stimulus bill
saved state lawmakers from some politically
painful fiscal adjustments, but another federal
windfall is unlikely. States are wondering where
to go for more revenue and what can be cut
from outlays. Here we discuss how the major
federal tax policy question of the day, the expir-
ing Bush tax cuts, could affect states at this