In this quarterly Digest message, I wanted to touch on two important Congressional issues and a couple of state legislative matters that are likely to be considered by the 2022 Legislature.
IRS Reporting Proposal in the Federal Reconciliation Package: From time to time, the brain trust in Washington, D.C., comes up with an idea that clearly makes no sense, and I’ll be discussing the latest example. The Biden administration and Treasury Secretary Janet Yellen have called for Congress to include in the federal reconciliation package a new tax information requirement for financial institutions. The NMBA strongly opposes the reporting proposal. While we support adequate funding and resources to promote compliance with our tax laws, we do not support a proposal that would generate a new trove of data that the IRS is unlikely to use or protect and impact privacy for many Americans.
The proposal would require financial institutions and other providers of financial services to track and submit to the IRS information of the inflows and outflows of every account above a de minimis threshold of $600 during the year. This proposal would create a dragnet, collecting the financial information of nearly every American and requiring significant resources to build, police, and maintain. Policymakers must consider how account-holder data would be protected and whether a program of this scale and scope infringes on the American people’s reasonable expectation of privacy. The IRS experiences 1.4 billion cyberattacks annually, has had multiple data breaches, and continues to deal with the fallout of identity theft and false tax returns. Adding an entirely new set of data will likely compound the IRS’s systemic problem and expose even more taxpayer data.
In addition to the challenges associated with protecting this new data, policymakers should consider the potential unintended consequences of leveraging bank relationships to execute such a large-scale and detailed reporting program. Privacy concerns are already cited as one of the top reasons individuals choose not to open bank accounts. A reporting program of this magnitude would potentially undermine our local banks’ efforts to reach people suspicious of working with regulated financial institutions and would push those households on the tip of banking services back into the unbanked and underbanked.
Despite assertions that his proposed program would be simple to execute and represent a low-cost mechanism to help narrow the tax gap, designing system capabilities to capture account inflows and outflows and other information is complex, expensive, and will take years. Having the raw data in a bank system does not mean it is easily complied with or produced to government specifications. The reporting system would need to apply across most, if not all, bank products – including many that do not currently require any IRS reporting and consequently do not have even the baseline analytical and reporting infrastructure needed to support this type of reporting. Additional representatives will then be necessary on an ongoing basis to assist customers and their income tax preparers in understanding this new data. This would be a significant operational undertaking, especially for community banks often dependent on third-party service providers for their system updates.
Financial institutions already report a tremendous amount of data to the IRS. It is not clear that the reported information would improve the IRS’s ability to identify tax evaders or to deter evasion over and above the tools already at the IRS’s disposal.
Hopefully, Congress will see the light and not include the reporting measure in the reconciliation package. But rest assured, this issue will continue to reappear in future Congressional discussions.
Cannabis Banking Bill Included in National Defense Authorization Act: Let’s hope lightning will strike. I say that because a critical legislative committee in the U.S. House of Representatives has included the SAFE Banking Act, which provides clarity to financial institutions seeking to serve legitimate business as an amendment to the National Defense Authorization Act. The Act, which passed in the House in the last Congress but was not considered by the Senate, would provide a safe harbor for depository institutions serving cannabis businesses in states where such activity is legal. Currently, more than 35 states have legalized cannabis for medical or adult use. But current federal law prevents banks from safely banking cannabis businesses, including ancillary businesses that provide them with goods and services.
Tax Deduction for Uniformed Retirees: Many bills have been introduced in the past several years to provide a deduction not to exceed $25,000 for uniformed services retirees to the State Income Tax Act. This deduction would be available for former members of the U.S. Army, Navy, Air Force, Marine Corps, and Coast Guard, and the commissioned officer corps of the National Oceanic and Atmospheric Administration. The deduction applies to uniformed services retirees who qualified either by years of service or disability to separate from the military service with lifetime benefits. The purpose of the proposed legislation is to encourage uniformed service retirees to make the state their place of residency.
Proponents argue that there are many reasons why states may exclude some income for retirees, such as lessening the economic burdens for individuals on fixed incomes and trying to attract retirees to the state. Military retirees, in particular, may be skilled workers who have retired from a first career in the military but seek a second career in civilian service.
Opponents indicated that exempting retirement income from income taxation may not necessarily help attract more military retirees. For example, Texas does not tax any income, yet the state features as one of the least tax-friendly states for retirees in the country because of its high property and sales taxes. Notably, New Mexico’s property taxes are among the lowest in the nation. It is, therefore, necessary to take a holistic look at New Mexico’s tax code, and attempts should be made to make the tax structure more simple, broad-based, and equitable, without being punitive to any segment of the population. It is estimated that the cost of the deduction, when fully implemented, could reach $24 million.
New Mexico is one of eight states that fully tax military pensions. Twenty states do not tax military pensions but do have a personal income tax. Thirteen more states provide partial deductions or exemptions.
State Bank: There have been rumors and discussions that state bank legislation may be introduced again. You may recall, legislation (HB 236-2021) was introduced during the 60-day Legislature and defeated soundly in the House Appropriations and Finance Committee. The NMBA is strongly opposed to a state bank. The implications of creating a public bank pose risks to New Mexico’s taxpayers and would saddle the State with significant, unwarranted costs to replicate a highly competitive, regulated and federally-insured banking system that exists in communities across New Mexico.
There is currently only one public bank operating in the U.S., in North Dakota. The Bank of North Dakota was chartered in 1919 to address circumstances that no longer exist in that state or anywhere else. Because it was created over 100 years ago, the Bank of North Dakota existed before most banks in that state were created. No public banks have survived in the U.S. since the Bank of North Dakota was established. Starting a public bank would consume public funds that could be used for other urgent needs such as health and safety, infrastructure and community development instead of offering financial services that are already provided efficiently by tax-paying, private-sector banks, and other financial institutions operating in a highly competitive marketplace. Public bank legislation has been considered – and rejected – in other states. The Federal Reserve Bank of Boston conducted a study of a public bank for Massachusetts in 2011. The study states, “Capitalizing a new bank along the lines of the initial size of Bank of North Dakota would require funds roughly equal to one-fifth of the state’s general obligation debt” or $3.6 billion. When similar bills were introduced in Illinois and Washington State, those states estimated the costs for creating a public bank at $827 million and $155 million, respectively.
Taxation of Social Security Income: The NMBA will continue to press the Legislature to eliminate the state income taxation on Social Security benefits. For more than half a century after Social Security was enacted in 1935, Social Security benefits were not taxed in New Mexico. In 1990, the New Mexico Legislature passed a long and complex bill changing how state and federal pensions were taxed – and raising more than $13 million for state government. Buried on the second-to-last page of that bill was a single line that imposed the state’s income tax on Social Security benefits. This provision received no public scrutiny. New Mexico is only one of 13 states that tax Social Security benefits, and of those states, New Mexico has the second harshest tax, costing the average Social Security recipient in New Mexico nearly $700 a year.
Taxing Social Security benefits undermines the purpose of the Social Security Act, which was designed to lift seniors out of poverty, not to fund state government. New Mexico currently ranks third-highest in the nation for the percentage of seniors living out of poverty. Social Security is the sole source of income for one in three New Mexico seniors, yet the average benefit is only about $13,900 a year. Meanwhile, the average annual cost of food, housing, and health care for older Americans is nearly twice as high: about $28,000, according to the U.S. Department of Labor. New Mexico’s Social Security tax also has a negative impact on our economy. If seniors could keep the money they now pay in taxes on their Social Security benefits, much of it would be spent immediately, and those dollars would go right back into New Mexico’s economy. State government would still receive significant revenues through the gross receipts taxes generated by that economic activity. Several such bills were introduced with the 2021 Legislature and all failed.