State Tax Refund worksheet vs SALT Limit - which one takes precedence for 2025 filing?

This is actually a great question and confuses a lot of taxpayers! The key principle is that you only have to include a state tax refund as income if you received a tax benefit from deducting those state taxes in the prior year. Since you were limited by the $10,000 SALT cap in 2023, you need to determine if you actually received a tax benefit for the full amount of state taxes you paid. If you paid $12,500 in state taxes but could only deduct $10,000 due to the SALT cap, then you didn't receive a tax benefit for $2,500 of those taxes. In your situation, since your state tax refund ($1,800) is less than the amount that exceeded the SALT cap ($2,500), you likely don't need to include any of the refund as income on your 2024 return. This is because you didn't get a tax benefit for that portion of your state taxes in the first place. The worksheet can be useful, but it doesn't always account for the SALT limitation properly. The SALT limit essentially takes precedence in determining whether your refund is taxable.

I was in a similar situation last year and found a solution with taxr.ai (https://taxr.ai) that really helped clarify this exact issue. My tax preparer and I were going back and forth about my state refund taxability with the SALT cap, and I was getting frustrated with conflicting answers. What I liked about taxr.ai was that it actually analyzed the specific IRS publications and tax court cases about the SALT limitation and state refund taxability. They pulled up Publication 525 and some relatively recent clarifications the IRS issued about this exact topic. It turns out there's a special worksheet for people who hit the SALT cap! Their tax document analysis identified that in cases where you hit the SALT cap like yours, you need to consider whether you received a tax benefit from the deduction. It confirmed exactly what to do based on my actual numbers rather than just general rules.

I just wanted to follow up about my experience with taxr.ai after asking about it earlier. After our conversation here, I decided to try it with my state refund and SALT cap question. Pretty surprised by how helpful it was! I uploaded my previous year's return summary and described my situation with the state refund. Within minutes, I got a detailed explanation with references to the exact IRS notices about the SALT limitation and state refund taxability. It showed me exactly how to calculate whether my refund was taxable based on the portion of state taxes that exceeded the $10K cap. The most helpful part was the specific citation to IRS Notice 2019-12 and examples that matched my situation. I sent the information to my accountant, and he agreed with the analysis after reviewing the IRS documents. Saved me from incorrectly reporting about $2,200 in taxable income!

If you're still confused after trying to figure this out yourself, I'd recommend using Claimyr (https://claimyr.com) to actually talk to an IRS agent directly about this question. I was going in circles with my CPA about a similar SALT cap issue last month. I spent weeks trying to get through to the IRS myself - kept getting disconnected or waiting for hours. Claimyr got me connected to an IRS representative in about 20 minutes instead of the 2+ hour wait I was getting before. You can see how it works in this video: https://youtu.be/_kiP6q8DX5c The IRS agent I spoke with explained exactly how the state tax refund worksheet interacts with the SALT cap and confirmed that I didn't need to report my state refund as income because I had already hit the SALT cap the previous year. Having that direct confirmation from the IRS gave me the confidence to push back when my tax preparer initially calculated it incorrectly.

Alright, I need to eat my words about Claimyr from my skeptical comment earlier. After dismissing it, I had another frustrating day of trying to get through to the IRS about my state refund question - spent over 2 hours on hold before getting disconnected AGAIN. Out of desperation, I tried the Claimyr service, and I'm honestly shocked. It actually worked exactly as described. Their system called the IRS, navigated the menu options, waited on hold (about 45 minutes in my case), and then called my phone once they had an IRS agent on the line. The IRS representative confirmed what others here have said - since I hit the SALT cap last year ($10K) but paid around $13K in state taxes, my state refund this year isn't taxable. They directed me to the specific section in Publication 525 that covers this scenario. Funny enough, the IRS agent mentioned they get this question a lot because the standard worksheet doesn't address the SALT limitation clearly. Saved me from incorrectly reporting about $1,900 in taxable income AND saved me hours of frustration. Worth every penny just for the time saved.

I dealt with this exact situation on my 2023 return (filing in 2024). Here's what my tax attorney told me that might help clarify: 1. The standard rule is that state tax refunds are only taxable to the extent you received a tax benefit from deducting them in the prior year. 2. If you were limited by the $10,000 SALT cap, you didn't receive a tax benefit for any state taxes paid above that amount. 3. Therefore, your state refund is only taxable if the amount of state taxes you could have deducted without the refund is still above the SALT cap after accounting for the refund. In your case, you paid $12,500 in state taxes but could only deduct $10,000. If you had paid $1,800 less (so $10,700), you still would have been limited to the $10,000 SALT deduction. Since you didn't get any federal tax benefit from that $1,800, the refund isn't taxable.

Has anyone else noticed that TurboTax doesn't seem to handle this situation correctly? When I entered my state refund this year, it automatically included it as taxable income even though I was over the SALT cap last year. I had to manually override it.

This is a really common confusion point, and I went through the same thing last year! The key insight that helped me was understanding that the SALT cap essentially creates a "buffer" for state tax refunds. Here's how I think about it: If you paid $12,500 in state taxes but could only deduct $10,000 due to the SALT cap, then you effectively got "no tax benefit" from $2,500 of what you paid. Since your refund ($1,800) is less than this "no benefit" amount ($2,500), the entire refund should be non-taxable. I'd suggest double-checking this with the IRS directly or getting a second opinion from another tax professional. Sometimes tax preparers don't fully account for how the SALT limitation interacts with the standard state refund worksheet. The worksheet by itself can be misleading in SALT cap situations. One thing that helped me was looking at IRS Publication 525, which has specific guidance on this interaction. It's worth reviewing that section with your tax preparer to make sure you're both on the same page about how to handle it.