NY, NJ Clash With IRS On Whether SALT Bypass Is a Quid Pro Quo

A New York-based federal appeals court panel on Thursday honed in on whether the IRS has the power to block states from adopting programs to bypass the $10,000 federal limit on state and local tax deductions.

New York, New Jersey, and Connecticut challenged a Treasury Department rule that curbs the available federal deduction for charitable giving where the donor earned equivalent SALT credits for that donation—in effect, recreating the once-unlimited SALT deduction.

But a donation that earns equivalent SALT credits is a quid pro quo meant to avoid the SALT deduction limit, according to the rule, and is therefore not a deductible contribution under IRC Section 170, IRS counsel Rebecca Tinio told the US Court of Appeals for the Second Circuit.

“Let’s assume that we agree with you that this is a shameless workaround,” Judge Beth Robinson said. “But there’s a long tradition in this country of—"

“Shameless workarounds?” Judge Myrna Pérez said, prompting laughter in the courtroom.

But Robinson said the question facing Treasury isn’t whether the states sought to explicitly bypass the federal SALT deduction limit. Rather, it’s whether that workaround is successful within the language of the statute, she said.

Tinio said the IRS is obligated to act solely to implement and maintain the purpose of the SALT deduction cap, which the challenged rule does.

“I take your point about the workaround and the desire to stop it, but I think the argument is that Congress is the one that then has to step in and plug the holes,” Robinson said. “The charitable contribution statute wasn’t amended in 2017.”

Quid Pro Quo

Robinson also expressed skepticism when questioning counsel for New York, New Jersey, and Connecticut over whether their SALT credit programs could really said to be encouraging charitable donations.

New Jersey Deputy Attorney General Christopher Ioannou, who argued for the three states, said the tax code accepts the fact that there are workarounds, and if they are unintended, Congress must close them. The IRS’s rule contravenes Section 170 in violation of the Administrative Procedure Act, Ioannou said.

The Village of Scarsdale, N.Y., which joined the states’ appeal, agreed. Daniel Rosen of Baker & McKenzie LLP, who represented Scarsdale, urged the appeals court to see the states’ SALT credit program as a legitimate means of encouraging taxpayer behavior, not a quid pro quo.

“We do have cases telling us that when you receive a benefit in return, then it’s not a gift or contribution,” Robinson said in response. “The fact that contributions plummeted when the benefit in return went away, I think reinforces the notion that this really is a quid pro quo.”

The three states each have relatively high SALT obligations and high-income residents who would benefit from greater SALT deductions. If they prevail, their credit programs could eat into federal revenues generated from the SALT deduction cap while lowering their residents’ tax burdens.

Pérez echoed Robinson. “I think an ordinary person listening would be like, that’s a kickback,” she said.

Judge Robert D. Sack also heard the case.

The New York, New Jersey, and Connecticut attorneys general represent their respective states. Kostelanetz LLP also represents Scarsdale on appeal.

The case is New Jersey v. Yellen, 2d Cir., No. 24-1499, oral arguments held 3/20/25.