State of the states: Preliminary takeaways to the subnational elections

State and local tax election recap

A historic 40 trifectas at stake, 48 state legislatures under single-party control, 11 governors, 80% of all state legislative seats and over a dozen tax-related ballot measures makes the outcome of the Nov. 5 elections a lot to digest. We breakdown the results and preview what they could mean for tax policy as 2025 approaches.

Top five post-election need-to-know items

In our last state tax policy outlook, we previewed the election landscape and potential impacts. Historic political control in state legislatures with governors continuing to advocate for individual and income tax rate reductions left the future uncertain. We delve into the results with preliminary takeaways to keep you current and informed.

1. Gubernatorial control remains largely unchanged

Eleven gubernatorial seats were at stake in Delaware, Indiana, Missouri, Montana, New Hampshire, North Carolina, North Dakota, Utah, Vermont, Washington and West Virginia. Despite a handful of toss-ups in a group of seats leaning solidly Republican or Democrat, none of the 11 state seats changed political parties. Delaware, North Carolina and Washington will remain under Democratic executive control and the remaining states will remain Republican. These governor-elects will begin to consider tax policy for 2025 sessions, likely presented in the ‘state of the state’ addresses beginning in January. All states are in session 2025.

2. Legislative control

Heading into the election, single-party control reigned supreme as 48 state legislatures were controlled by a single political party. In Pennsylvania, the House democrats controlled the chamber by a single seat and in Alaska, both chambers were controlled by a coalition. While little change was anticipated, Arizona was closely watched with razor-thin Republican control and Michigan and Minnesota with equally thin Democratic control.

Following the election, Republicans have flipped the Michigan House, eliminating the Democratic trifecta in the state. As of the date of this article, results are still be tallied in Alaska, where currently coalitions control both chambers of the legislature, Arizona, where Republicans have control of both chambers by a single seat, Minnesota, where Republicans could tie or take control of the House, and in Pennsylvania, where Democrats control the House by a single seat.

3. Ballot measures

Tax-related ballot measures are generally plentiful in presidential elections years with 2024 being no exception. Sin taxation, tax increases, sales tax breaks and tax repeals showed up on ballots across the country. A summary of results from the more salient measures is included below. Note that some of these results may not yet be officially certified and are based on state secretary of state data and other public information available as of the date of this article. Some results could be contested where permitted under state or local election law.

Statewide measures

• PASSED: Colorado Proposition KK is a legislatively referred measure creating a 6.5% excise tax on firearms, parts, and ammunition, effective April 1, 2025
• FAILED: Florida Amendment 3 would have legalized recreational marijuana. While not directly addressing taxation, the sale of non-medical marijuana would be subject to the state sales and use tax under existing law
• PASSED: Georgia Amendment 2 is a constitutional amendment that creates a new tax court that would be under the judiciary and would replace the current Georgia Tax Tribunal
• PASSED: Georgia Referendum A is a legislatively referred measure increasing the personal property tax exemption to $20,000 from $7,500
• PASSED: Illinois advisory question on whether to amend the state constitution to create an additional 3% tax on incomes over $1 million. Note that this is an advisory measure and would not mandate or create such a tax without further legislative action
• FAILED: Massachusetts Question 4 would have legalized certain psilocybin products and impose a 15% excise tax as well as permitting localities to impose up to 2% additional tax
• PASSED: Missouri Amendment 2 legalizes sports betting and imposes a 10% tax
• PASSED: Nevada Question 5 provide a sales and use tax exemption for child and adult diapers
• FAILED: North Dakota Measure 5 would have legalized and presumably taxed marijuana
• FAILED: Oregon Measure 118 would have imposed an additional 3% tax on businesses with over $25 million in Oregon sourced sales. The tax would have been used to provide a rebate to all individuals residing in the state for more than 200 days
• FAILED: South Dakota Measure 28 would have prohibited a tax on anything sold for human consumption, e.g., groceries, but would exclude alcohol and prepared food
• FAILED: South Dakota Measure 29 would have legalized recreational marijuana. While not directly addressing taxation, a previous legalization measure, which was later found unconstitutional, included a 15% tax on sales
• FAILED: Washington Initiative 2109 would have repealed the 7% capital gains tax on net gains in excess of $250,000 originally effective in 2022

Local measures

• PASSED: Berkely Measure Z would remove the current sunset of the beverage tax at the end of 2026
• FAILED: Chicago property tax increase on homes valued over $1 million (from primary election earlier this year)
• TO BE DETERMINED, LEANING TO PASS: Santa Cruz Measure Z imposes a $.02 tax on distribution of sweetened beverages
• PASSED: San Francisco Proposition L imposes an addition tax on transportation network companies
• PASSED: San Francisco Proposition M makes various changes to the city’s gross receipts tax

4. Federal tax bill looms

With the looming expiration of over 30 provisions of the Tax Cuts and Jobs Act (TJCA) and a new president, the likelihood of a federal tax bill in 2025 is high. Taxpayers considering the future of the TCJA and the president-elect’s tax policy platform should understand that everything is on the table from the AMT to corporate tax rates. Taxpayers should consider modeling potential changes to their priority tax strategies over the next few months.

While the outcome of a federal tax reform is uncertain, how and when the states respond could have a significant impact on a taxpayer’s overall tax footprint. States generally conform to the IRC based on ‘rolling conformity’ or ‘fixed-date conformity.’ In the event a federal tax bill is enacted in 2025, rolling states should generally conform, unless they specifically decouple from a specific IRC section.

Fixed-date states adopt a version of the IRC (mostly on an annual basis) during the legislative session. For most states, the legislative session is between January and June. Timing of a federal bill will be key on how and when the states respond through conformity or decoupling. For example, a fixed-date state may have already updated its conformity to the IRC for the 2025 tax year prior to the enactment of federal changes. Some states may be able to enact a subsequent update in the same legislative session, while others may not, especially those states with short session schedules. Absent the governor calling a special session, many states may not be able to address conformity until 2026. This may lead to a disconnect in state treatment for the 2024 tax year, and for however long a state may disconnect from the new provisions.

5. State tax policy trends expected to continue in 2025

Overall state tax collections rebounded in the second quarter of 2024 driven by the healthy growth of individual income taxes over the second quarter of 2023, likely driven by strong market performance in 2023. States continued to reduce both personal and corporate tax rates in 2024, adding to the over two dozen rate reductions over the past few years. Market performance, wage growth, and unemployment may impact how these rate reductions add to deficits or surpluses in the coming months. Looking ahead to 2025, state policymakers may consider a wait-and-see approach due to the evolving federal tax landscape before continuing with incremental state tax reform.

Listed below are several items on our radar heading into 2025:

Public Law 86-272: The revised MTC P.L. 86-272 guidance addressing business conducted over the internet was adopted in New Jersey and New York in 2023. A substantive challenge to the New York regulation was filed earlier this year. A legal challenge to New Jersey’s adoption is also likely. Both challenges likely will lead to the first judicial interpretation of whether a state adopting the revised MTC guidance has violated federal law.

Pass-through entity tax elections: Few states remain without a pass-through entity tax election, but the limitation on the SALT deduction is set to expire at the end of 2025. With a large number of states decoupled from the federal limitation, some taxpayers may benefit from continuing the election in 2026, assuming the limitation does expire. A number of proposals over the last few years modified and extended the federal limitation through numerous variations. Modeling the election now remains a critical exercise.

Sales and use tax base expansion: In the past decade, states have used incremental sales tax base expansion to help generate additional tax revenue without too much disturbance to the electorate. This expansion is likely to continue with proposals to tax more professional services and services generally, such as gym memberships and spa services. Another area ripe for taxation is the digital economy, from digital goods and products to all varieties of cloud services, including data storage and social media data. To the extent states experience unexpected budget challenges, they will look to the digital economy.

Stepped-up enforcement: Traditionally, when states have needed additional revenue, they have turned to increased enforcement activities. This is especially true when it is politically difficult to raise rates or expand the base. With few if any tax increases on the horizon, some states likely will look to their departments of revenue for additional funding. In the past, states have increased the number of audits, particularly of out of state businesses. In that regard, we have seen an increase in nexus questionnaires and other inquiries regarding interstate business activities. States are also less likely to compromise or settle tax disputes.

Takeaways

The end of the calendar year following a major election is a critical time to reevaluate business operations and tax positions. A change in political leadership can affect tax policies, even when one party controls both the legislature and executive branches. Moreover, it is a good time to think about where the economy is headed in the coming year. Significant economic changes, including downturns and recessions, can lead to favorable – and unfavorable – tax policy and administrative developments. Taxpayers should closely follow federal and state tax proposals and timely contact their tax advisers for more information.