How New Tax Law Should Figure Into Grads’ Job Search
State income taxes and property taxes aren’t so deductible any more
When a newly minted college grad goes job hunting, taxes aren’t likely top of mind.
But changes to federal law that went into effect with the 2018 tax filing season make taxes an increasingly important consideration that smart millennials might want to work into their decision-making on where to live and work.
In the past, federal tax law gave residents of states with high income taxes and high home values a big subsidy. You could basically deduct the cost of your state and local taxes – including property tax – on your federal return. (At higher income levels, there were phase-out limits on what you could deduct.)
If you paid $30,000 in state and local income tax and another $15,000 in property tax, your state and local tax deduction (SALT) on your federal return would have been $45,000. For someone in the old 33% tax bracket, the federal deduction meant the after-tax cost of those state-and-local taxes was just $30,150.
The new law limits the total SALT deduction any household can take to $10,000. Not per person. Per household. For the same household with $45,000 in SALT payments, the after-tax cost (assuming the same 33% tax rate) would be $41,700. That’s an $11,500 swing, as state income tax is no longer deductible. Property taxes rise over time. And given the precarious state of many state budgets – Exhibits A and A1: Illinois and New Jersey – it’s hard to imagine income tax rates declining. So, those vast sums in the graph below: not so deductible any more.
Granted, the new tax law has some potential offsets, including a much higher standard deduction and marginally lower individual tax rates.
But the bottom line is that if you are eyeing a successful career in a high-tax state where home values are high, you are likely looking at a bigger tax bill.
The U.S. Treasury estimates that if the new SALT deduction limits had been in place for the 2017 tax year, nearly 11 million taxpayers would have collectively lost the ability to deduct about $323 billion.
An analysis by the National Association of Realtors estimates that households with income between $500,000 and $1 million pay an average of more than $55,000 in SALT. Starting in 2018 just $10,000 of that was eligible for a deduction.
While there’s no escaping property tax – even as a renter, you better believe the landlord is factoring it into the lease – you can choose to live somewhere with either no or low income taxes. The states that don’t levy income tax are Alaska, Florida, Nevada, South Dakota, Texas, Washington and Wyoming. New Hampshire and Tennessee only tax income from dividends and investments. (You can get a full 50-state rundown here.) If you’re a highly-paid young professional, Florida, Texas and Washington have robust job markets.
Silicon Valley vs. Austin, Texas
For the tech-inclined, Silicon Valley has obvious allure. It’s also got high taxes and ridiculously high home prices. There are a ton of tech jobs available elsewhere – in Austin, for example, where there is no income tax and home values are more sane.
According to Guaranteed Rate’s Market Research data, median household income in Palo Alto is $147,500. The state income tax bill for an individual making that much is $10,500, effectively using up 100% of a household’s $10,000 federal SALT deduction. The median Palo Alto home list price is $4 million. Suddenly that high salary isn’t looking so great. But let’s assume you IPO your way to buying a home for $4 million. That works out to a property tax bill of around $32,000 a year, with no federal deduction if your income tax already ate up the SALT deduction. In the past, that combined $42,000-plus in SALT taxes would have been deductible.
Salaries are much lower in Austin. Median Austin household income is around $64,000, though tech jobs command higher incomes. Job site Indeed.com recently listed more than 3,500 IT jobs in the Austin area that paid at least $95,000.
There’s no income tax in Texas, but property tax rates are higher than in California. The median list price for Austin homes for sale recently was around $525,000. That makes Austin much more affordable – even on a lower salary – than Silicon Valley.
At $525,000, the property tax works out to around $10,500. Add in your mortgage interest deduction and charitable donations, and you’re likely better off itemizing rather than taking the $12,000 standard deduction for individuals. When you itemize, $10,000 of your $10,500 property tax bill will be deductible on your federal return. (Once you get married, the $24,000 standard deduction might end up being the way to go).
Of course, the tax tail should never wag the dog. But given today’s new tax landscape, thinking about the potential tax ramifications – and housing costs – of where you decide to locate is worth consideration.
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