CLIENT ALERT: June 17 2004

New Jersey Proposed Income Tax Rate Increase

Addressing a special joint session of the New Jersey Legislature back in April 2004, Governor McGreevey proposed a "property tax relief program" designed to return more than $800 million dollars to middle-class and senior citizen property tax taxpayers.

The program is to be funded by an increase in New Jersey's top marginal income tax rate. Under the proposal, the tax rate applicable to income in excess of $500,000 would be increased from the current 6.37 % rate to 9.0 %. The 2.63 % increase would represent a 41 % increase in the top tax rate.

In a press release supporting his proposed plan; the Governor cited three factors;

1) The so-called "millionaire's tax" will only affect about 28,500 taxpayers - less than 1 % of all New Jersey taxpayers.
2) The tax increase will represent only a small portion of the "Bush Windfall" enjoyed by high-income taxpayers as a result of the recent federal rate reductions.
3) The additional state income tax will be fully deductible on the federal return, which will mitigate the overall cost of the tax increase.

Many of the taxpayers that will be affected by the state tax increase may not get the full benefit of the Bush tax cuts due to the increased propensity for taxpayers to be subject to the Alternative Minimum Tax (AMT). Since the recent Federal tax cuts did not include significant changes to the AMT and because the top federal individual rate is relatively close to the top AMT rate, the likelihood of being subject to the AMT has been significantly increased.

Add in the proposed increase in the state income tax, and now even more taxpayers will be subject to AMT at the federal level. Since real estate taxes and state income taxes are not deductible for AMT purposes, people living in high tax states like New Jersey and New York will become more likely to be affected by this alternative tax. As a result, most taxpayers affected by AMT will not benefit whatsoever from being able to deduct their state income taxes from their federal taxable income.

If enacted, the New Jersey rate would become one of the highest rates in the country - even higher than New York, where marginal tax rates have historically been higher than those in New Jersey. The increase will have a significant effect on high-income taxpayers that live in New Jersey and work in New York. The top New York tax rate is currently 7.7 %. Thus, even though New Jersey will allow a credit for taxes paid to New York, New Jersey residents will still owe additional New Jersey tax roughly equal to the 1.3 % spread between the 9.0 % percent New Jersey rate and the 7.7 % New York rate.

For those residents that work or live in the southern and western part of the state, Pennsylvania and its 3.07 % top tax rate may provide a safe haven for affected taxpayers. A move across the Delaware would eliminate New Jersey's newest tax rate due to a special reciprocal agreement between the states, where New Jersey does not tax wages earned in New Jersey by Pennsylvania residents.

Please contact any member of our tax department if you would like further information regarding the impact of this proposed legislation to your personal circumstances.