New York, New Jersey, and Connecticut—which are fighting against a Treasury Department rule that limits their programs to avoid the $10,000 cap on state and local tax (SALT) deductions—are set to challenge the rule in federal appeals court on Mar. 20, according to Bloomberg Tax. The case is New Jersey v. Yellen.

The three states—which have comparatively high SALT obligations—have created workarounds to the cap. However, the Treasury’s rule reduces the available charitable contribution deduction.

These states, with the Village of Scarsdale, N.Y., joining as a plaintiff, were unsuccessful in suing and arguing that the rule is arbitrary and capricious based on the Administrative Procedure Act (APA), according to Bloomberg Tax.

Meanwhile, the Treasury is requesting the U.S. Court of Appeals for the Second Circuit to uphold dismissal of Connecticut’s and New Jersey’s claims for lack of standing, and to affirm the lower court’s ruling against New York’s APA claim. The Anti-Injunction Act has barred the relief asked for by the states given that it would hinder the IRS from assessing or collecting taxes, the federal government stated.

According to Bloomberg Tax, larger SALT deduction caps and state-level plans for trying to work around them can have a big effect on federal tax revenue.

Data shows that the cap's full repeal would cost upwards of $1.2 trillion in federal tax revenue in the upcoming decade, based on Tax Policy Center’s estimates. Taking out the current cap’s “marriage penalty” by doubling the available deduction for joint filers would cost the federal government roughly $224.7 billion in the same period, Bloomberg Tax reports.

The appeal is happening at the same time negotiations among Republicans in Congress, who are currently working on the tax code’s biggest overhaul since 2017's Tax Cuts and Jobs Act that introduced the $10,000 SALT cap during President Donald Trump’s first term.

During that time, the GOP utilized the provision to pay for tax cuts. However, in the time since, the cap has been a dividing issue among lawmakers from both sides.

Rep. Andy Harris (R-Md.), leader of the House Freedom Caucus, believes that Congress will raise the SALT deduction cap. However, the issue is still undecided, as some anti-SALT deduction Republicans view them as a subsidy for high-tax states while incentivizing raising local taxes.

The question of whether to raise the SALT deduction cap, considering its disproportionate tax benefits for wealthier taxpayers, also split the Democratic caucus during President Joe Biden’s term.

“One interesting feature of the SALT debate is that it is not, unlike some other issues, strictly a partisan or ideological disagreement,” noted Garrett Watson, director of policy analysis at the nonprofit Tax Foundation. “The impacts of this very much vary by geography.”

Even if the GOP’s income tax bill were to significantly raise the cap, suits on the validity of state-level credit programs are still pertinent by setting the terms of SALT debates in the future, noted Lauren Suarez, of counsel at RJS Law.

SALT credit programs now limited by the Treasury Department rule at issue in the Second Circuit case had existed decades prior to the introduction of the deduction cap, stated RSM US LLP’s Brian Kirkell.

New York caused the Treasury to respond because of its credit plan's size. However. other smaller and historical programs were affected as well by federal enforcement efforts, according to Bloomberg Tax.