Some argue American Rescue Plan limitations on tax cuts ‘violate state sovereignty’

U.S. Senate Majority Leader Sen. Chuck Schumer (D-NY) speaks at a press conference at the US Capitol on March 10, 2021 in Washington, DC. In a final vote, the House passed U.S. President Joe Biden’s revised $1.9 trillion COVID-19 relief bill, named the American Rescue Plan, in the administration’s first major legislative achievement. (Photo by Tasos Katopodis/Getty Images)

The American Rescue Plan is putting money in people’s bank accounts and in state treasuries. But it includes a provision that essentially says that if a state gets this bailout money, it can’t just turn around and give everybody a tax refund.

In some red states, Republican attorneys general are saying, “Hey, if we want to give a rebate to our taxpayers or were already planning to give one, why should the federal government be able to stop us?”

“The attorneys general are saying that the limitations on the bill that might prevent some state tax cuts from being enacted violate state sovereignty,” explained Rob McKenna, former state attorney general. “They haven’t sued. There’s apparently discussion of a potential lawsuit. What they’ve done is send a seven page letter to Treasury Secretary (Janet) Yellen complaining about the limitation in the law and complaining that, frankly, the law is a bit vague and it’s a little hard to understand what would be allowed and what wouldn’t be allowed.”

“For example, would tax cuts that were already planned prior to the American Rescue Plan being adopted still be allowed to go forward,” McKenna added. “The White House says this isn’t a bar to all state tax cuts. But if a state chooses to cut taxes, for example, because revenues are coming in faster than projected, which is happening in, I think, two thirds of the states, it must replace the revenue that goes out to the tax cuts in some other way or else it has to pay back to the federal government some amount of the American rescue plan funds.”

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This is not very likely to affect Washington state as the latest projection, McKenna thinks, is more than $3 billion in additional state tax revenues above what’s budgeted.

“The economy is actually doing pretty well here, and it will likely get better in Washington and throughout the country as the unemployment rate continues to drop,” he said. “The Fed is forecasting a drop to 4.5% by later this year. So what I’ve read is that something like 31 of the states are actually seeing better than expected tax revenues. Some of them are saying, ‘OK, well, we should give people tax relief.’ In Idaho, they’re talking about property tax relief, for example.”

“It does raise the question why the federal government set aside $350 billion in a pot of money for cities, counties, and state governments if a lot of these governments are actually doing better than budgeted with their revenues,” McKenna added.

When he served as budget chairman for King County, McKenna says there was a worry about increasing funding for ambulances for a local fire district or group, as an example, only to see them then cut their own money or their own budget and replace it with the money they were being given.

“That’s called supplanting, and a lot of times grant money from a higher level of government will try to limit that,” he said. “In the case of the American rescue plan, for example, not only are they trying to prevent states from cutting taxes and funding the tax cuts with federal money. They’re also trying to stop cash strapped pension funds at the state and local level from helping themselves to this money to cover rising pension costs.”

Though, KIRO Radio’s Dave Ross asks if the idea is to get more money to people’s pockets then why does it matter if it comes from the federal or the state treasury?

“That’s a good point,” McKenna replied. “And there are going to be states that argue that if they’ve been careful in managing their money and they’re doing better than expected, they should be allowed to pass along the benefits of their frugality to their taxpayers, particularly if they had to raise taxes earlier in order to deal with the pandemic.”

None of this threatens the stimulus checks, however.

“And this is not a threatened lawsuit to overturn the entire law, but rather a potential lawsuit to challenge the feature in the law that attempts to block states from cutting state taxes,” McKenna said. “That’s the sovereignty issue. So it would not threaten the overall architecture of the law, or the checks going out to people, that already have gone out to people, as a matter of fact.”

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Aside from the sovereignty issue, there’s also the question of enforcement if states did give a tax rebate.

“In other words, if the state of Montana proceeds with the tax cut they’ve been planning because their state revenues are running ahead of budget, is the federal government going to come in and sue the state of Montana? Demand that a certain amount of money that the state received from the federal government be returned?” McKenna said.

“That’s the classic enforcement problem. You can write something into law, but do you have the will to actually enforce it?” he added. “And for that matter, does it really make sense to try to enforce that?”

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