What is the U.S. Treasury Guidance on Tax Cuts?

The United States Treasury released its guidance last week on the permissible uses of federal relief funds under the American Rescue Plan Act, “the Coronavirus State and Local Fiscal Recovery Funds.” In Section Eight of Treasury’s written guidance, they provide a list of “ineligible uses” of these federal funds. According to the Treasury memo, “recipients have considerable flexibility to use these funds to address the diverse needs of their communities.”

The memo explains that the American Rescue Plan Act specifies two ineligible uses of these funds. “First, it explains that states and territories may not use this funding to directly or indirectly offset a reduction in net tax revenue due to a change in law from March 3, 2021 through the last day of the fiscal year in which the funds provided have been spent.” For example, Governor Newsom’s tax refund proposal for $600 payments to 75% of the state’s population is not due to a change in law and therefore is not precluded by the federal act’s limitation.

The US Treasury further explains that, if a state or territory cuts taxes, they must demonstrate how they paid for the tax cuts from sources other than the Coronavirus State Fiscal Recovery Funds. Specifically, states can cut taxes “by enacting policies to raise other sources of revenue, by cutting spending, or through higher revenue due to economic growth.”

What happens if net tax decrease law changes are made by states that are attributable to federal relief funds having been received? The US Treasury explains, “if the funds provided have been used to offset tax cuts, the amount used for this purpose must be paid back to the Treasury.”

In addition, no recipient may use this funding to make a deposit to a pension fund. Treasury’s written guidance explains that a “deposit” is an extraordinary contribution to a pension fund for the purpose of reducing an accrued, unfunded liability. While pension deposits are prohibited, recipients may use funds for routine payroll contributions for employees whose wages and salaries are an eligible use of funds.

Finally, the US Treasury guidance discusses several other ineligible uses, including funding debt service, legal settlements or judgments, and deposits to rainy day funds or financial reserves. Furthermore, general infrastructure spending is not covered as an eligible use outside of water, sewer, and broadband investments or above the amount allocated under the revenue loss provision of the federal act.