By Michael Hiltzik
December 19, 2012

You may be unaware of the local ramifications of one of the proposals currently at play in the danse macabre that passes for fiscal negotiations in Washington.

This is the plan to cap federal tax deductions at either a set figure or a percentage of income. Either way, it would strike deepest and hardest mostly at residents of California, as well as other populous states with high levels of government services, high state and local taxes, and relatively expensive housing.

The mortgage interest and state and local tax deductions are among the most important tax breaks that would be capped under this sort of proposal. They’re linchpins of middle-class tax planning in the most heavily affected states, which also include New York, Illinois, Massachusetts and Connecticut.

These states, of course, are also of the deepest blue, politically speaking. They also tend to support the broadest range of public services, such as healthcare for the needy. That’s what’s under attack.

“This hasn’t gotten much attention, and it really deserves a lot of attention,” says Russell Goldsmith, chairman and chief executive of Los Angeles-based City National Bank. He points out that California’s federal tax contribution of $281 billion in 2011 was the largest of any state, but we’ve traditionally ranked near the bottom in terms of how much flows back from Washington — “we’re subsidizing the rest of the country,” he says.

“It would be unfair to penalize the states that have the highest taxes, the highest services, the highest costs and tend to be more unionized by capping deductions for local taxes and mortgage interest,” Goldsmith says. “The combination hits the residents of these biggest states much harder and much less fairly than what the president’s saying, which is to raise rates across the board.”

Goldsmith has been sounding the alarm about what a hard cap on these deductions might mean for the economies of California and the other big states. “This is a pivotal time for California’s economy,” he says, especially as the tax increases voted under Proposition 30 begin to appear. “The state’s economic recovery does not need another 2% or 3% increase in its taxes versus other states,” which could be the effect of a cap on deductions.

The virtue of the deduction cap, according to its supporters, is that it’s simple. You don’t have to tinker with marginal tax rates, you can dispense with complicated calculations to figure out what’s deductible and by how much.

Republicans and conservatives are big fans: Mitt Romney plumped for a hard cap on deductions of $17,000 to $25,000 (depending on his mood, apparently) during his presidential campaign. House Speaker John A. Boehner (R-Ohio) has offered it as a bargaining chip in the latest talks; President Obama has said he’d be open to applying a percentage dilution to deductions so that they’d deliver less of a break to higher-income taxpayers than others.

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