This post attempts to list in simplified wording what we know and what we don’t know about New Jersey’s new real estate tax credit program.
What we know:
1. In May of 2018 the tax credit program became law, even though most details of its operation were missing.
2. The program allows taxpayers to take a local real estate tax credit of 90% of the amount paid to specific charities called “spillover funds”.
3. Yesterday the state announced the issuance of regulations to allow local governments to set up these charities.
4. The IRS generally will not allow a charitable contribution deduction for most of the amount paid under proposed regulations issued in August 2018. This means that the major tax goal of the program is defeated.
5. The overall total amount that must be paid by the taxpayer participating in the program increases because the tax credit is less than the contribution amount.
6. The remaining immediate appeal for the program, if any, is that it could establish an alternate system for the payment and management of public revenues.
7. Municipalities appear to have no incentive, and in fact may have a disincentive, to set up these now nonprofit vehicles.
What we do not know:
1. Whether the additional layer of legal governance imposed by federal nonprofit law would affect the handling of the funds. For example, whether it might help provide an additional deterrent for fraud by adding federal tax penalties.
2. Whether municipalities will actually set up these charities.
3. Whether taxpayers will use them if there is no significant tax benefit.
4. Whether the charities will have any real impact on the distribution and use of these funds.
5. Whether the states will ultimately be successful in their lawsuit against the federal government to increase the deductibility of these charitable contributions. (We assume that the state will not be successful for tax planning purposes however, successful litigation could substantially improve the benefits of this program.
An illustration of how the program could work:
Impact on local taxes: Assume a taxpayer has local real estate taxes of $5,000 and that she makes a contribution to her local municipality charity of $1,000. She gets a tax credit of $900 to reduce her real estate tax to $4,100. Her overall cash outlay before participating in the program was just the $5,000 real estate tax. Her overall outlay under the new program scenario is $5,100. Because the $1,000 contribution plus the $4,100 tax bill is more than the total of her former tax bill alone, the net cost of participating in the program is $100 more than before.
Impact on state taxes: The $5,100 payments remain deductible just as the former $5,000 was deductible.
Impact on federal taxes: In most cases participation in the plan will have no impact on federal taxes. The Federal Register includes several examples so I will not create a new example here. However, none of this may matter because: 1) the taxpayer might not itemize deductions anyway (most taxpayers will not itemize federal tax deductions), or 2) the amount of the taxpayers deductions might be already capped at the maximum allowable amount.