Arizona tax officials warn filing guidance conflicts with competing plans of Hobbs, GOP lawmakers

As Arizona Republican lawmakers and Democratic Gov. Katie Hobbs fight over who has the best plan to conform Arizona’s tax code to recent federal adjustments, state officials warned they’ve already issued guidance to taxpayers that differs from both competing proposals.

Lawmakers and the governor are grappling with how to conform with changes to federal tax law adopted as part of President Donald Trump’s spending plan. Republican state lawmakers plan to fully conform to the federal adjustments, changes that would result in massive tax cuts to the tune of $441 million in fiscal year 2026. Hobbs prefers to partially conform to the new federal tax codes, which would result in a smaller reduction in state income tax revenues.

But officials at the Arizona Department of Revenue said at a legislative hearing Wednesday the agency has already published forms and guidance to taxpayers that doesn’t match either the governor’s or GOP-backed proposals.

Revenue officials said they were following the governor’s orders to assume conformity with the federal tax code, while also adding provisions from Hobbs’ “middle class tax cut” proposal.

Agency officials also said they’ve already begun to receive some Arizonans’ early tax returns, ahead of the the official start to tax season on Jan. 27. That means that, if either the Republican or Democratic-preferred tax changes are adopted, some Arizonans would be forced to refile their taxes.

“The citizens of this state have absolutely no idea what this administration is trying to get done on tax conformity, because it’s all over the place. It’s not consistent,” Rep. David Livingston (R-Peoria) said.

Republican lawmakers said this all could have been avoided if Hobbs had called them into a special session months ago to come up with a plan — something House Republicans called the governor to do in November.

Republican lawmakers advanced their own tax conformity measure on a party line vote Wednesday, and plan to hold votes in the full House and Senate to send the proposal to the governor desk Thursday.

Hobbs has said she’ll reject it.

The parallel votes by the Senate Finance Committee and the House Committee came over objections from Democrats, who said some elements are designed to benefit corporations and the rich. Instead, they generally have lined up behind a plan offered by the governor for more limited tax cuts, one with a $250 million price tag.

And Sen. Mitzi Epstein questioned the rush. The Tempe Democrat chided the GOP majority for pushing ahead with tax cuts even before lawmakers have figured out how much money the state needs to operate in the next fiscal year.

"It's foolish to cut more without plans to pay for it,'' she said.

Hobbs, in prepared comments after the vote, echoed that sentiment.

"If Republicans want to give a billion dollar tax break for the wealthy, they must show the people of Arizona how they will pay for it without slashing the vital services our constituents rely on,'' she said.

But Sen. J.D. Mesnard said it is the Democrats who have things backwards.

The Chandler Republican said it is up to the Legislature to set the policies on taxes, including how much will be collected and who should pay. Only when there is a final revenue figure, he said, that lawmakers decide their spending priorities.

Mesnard said proceeding as Democrats want would require the Legislature to first adopt a budget before deciding tax breaks.

But those decisions typically are not made until April — or sometimes as late as June.

Meanwhile, Mesnard said, Arizonans are expected to file their taxes by the April 15 deadline.

Following that calendar, he said, means "the taxpayers of Arizona are screwed.'' That's because if they already filed their returns, they would have to amend those returns to ensure that they are compliant with the actual tax law.

Epstein, however, was not convinced that the tax cuts should be adopted first.

What should first be considered, she said, are those things that are the responsibility of the state and what they will cost "and then look at do we have enough money to pay for it.''

"If we start by passing a tax package, we start with just wham, bam, take away as much money as you can and then say, 'Oh, what do we have left to take care of our public education, our students, our roads,''' she said.

There are some areas of agreement.

Both the governor and GOP lawmakers want to increase the standard deduction, the amount that can be subtracted from income before computing taxes owed. Hobbs said that is used by about 88% of all Arizonans who lack sufficient specific deductions to itemize. Also in both proposals are changes to eliminate state income taxes on tips and overtime. All of that was in what she called her "middle class tax cut" proposal.

But Hobbs also sought to align state tax laws to a provision in the federal bill to allow those who purchase new cars to deduct the interest on their loans, even if they don't itemize.

Mesnard pointed out that would apply only to vehicles actually assembled in the United States.

And he said it's virtually impossible for a buyer to know whether a vehicle marketed by a U.S. corporation actually was built here or, conversely, whether a car or truck sold by a foreign company actually was put together here.

Instead, the GOP plan going to the full House and Senate on Thursday would increase the tax credit that can be taken for dependents by $25, to $125, and allow larger deductions for child and dependent care expenses. Republicans said that Hobbs should support that change.

What's also different is the federal measure — and the plan backed by Hobbs — would provide a $6,000 deduction for seniors, targeted to provide some tax relief for social security income.

Mesnard, however, pointed out that Arizona doesn't tax social security. So the GOP plan instead provides the same deduction for any withdrawals from any retirement account, including IRAs and 401(k) plans. And that could be taken by anyone who is at least 60 years old.

Hobbs, however, is opposed. She said that means there would be no tax break for seniors who are still working and not getting retirement benefits.

What appears to be most controversial is a provision in the federal law that allows businesses to immediately deduct from their taxable income the amount spent on new equipment.

Under normal circumstances, the cost of large purchases have to be expensed on tax forms over several years. An immediate deduction means an immediate reduction of taxes owed.

Rep. Justin Olson said that change is justified.

"Accelerated depreciation for expenses will grow our economy and will create more economic opportunity for Arizona,'' said the Mesa Republican. And that, he said, will allow businesses to hire more people.

That still leaves the question of how the tax cuts will affect the state budget.

Livingston said one option would be for his colleagues to approve renewal of Proposition 123.

That 2015 measure allowed the state to take more money out of a special education trust fund, financed by proceeds of sales and leases of state trust land, to increase funding for K-12 education by $300 million a year.

Only thing is, that provision expired last year. And since then the $300 million for education has come out of general tax dollars. Livingston said he supports a renewal — it also would require voter approval — which would free up that $300 million for the cuts.

Olson, however, said that shouldn't be necessary.

"There is room enough to absorb the tax savings in a $17.5 billion budget,'' he said.

Olson said that the budget adopted for the current fiscal year increased spending by $1.3 billion, which is twice the rate of inflation and population growth. And he said the changes will "make it easier for hardworking Arizonans to make ends meet.''