Understanding H.R. 1: How Federal Tax Code Changes Could Impact Illinois

February 12, 2026

by Paula R. Worthington

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Executive Summary

As the State of Illinois (Illinois or ‘the State’) budget season approaches, the Civic Federation continues its work on the State’s fiscal outlook and potential budget issues likely to emerge in the next few months. In previous reports, we have considered the State’s fiscal outlook as of mid-fall and explored how federal H.R. 1, signed into law on July 4, 2025, may affect the Supplemental Nutrition Assistance Program (SNAP). In this “explainer,” we continue our focus on H.R. 1, particularly its tax code provisions. We describe selected changes and their impacts on Illinois, assess the State’s responses to date, and briefly discuss other policy adjustments the state might consider going forward.

H.R. 1, the Budget Reconciliation Bill, passed by Congress last summer and signed into law on July 4, 2025, as P.L. 119-21, significantly revised federal individual and business income tax provisions. Illinois is among 26 states whose state income tax code “rolls with” changes in the federal Internal Revenue Code (IRC), meaning federal tax changes automatically affect state tax liabilities unless the state legislature intervenes to “decouple.” While rolling conformity simplifies tax administration and compliance for taxpayers, especially those operating in multiple states, full conformity can expose a state to considerable and often unpredictable shifts in revenue.

Illinois faced an over $830 million revenue loss in the current 2026 fiscal year from all federal tax code changes included in last year’s federal legislation, primarily due to changes to business taxation—most notably, expanded “expensing” provisions that allow corporations to immediately deduct the full cost of certain investments. 

To mitigate these negative fiscal impacts, Illinois passed Senate Bill 1911, enacted into state law as Public Act (P.A.) 104-0453 in December 2025. This post highlights three specific provisions of Illinois’s new law:

1. First, the State formally “decoupled” from provisions related to the expensing of investments in qualified production property, which is nonresidential real property used in the manufacturing, production, or refining of tangible personal property, saving the state an estimated $144 million in FY2026.
2. Second, the State essentially chose to conform with federal changes to treatment of international income earned by corporations with foreign subsidiaries: by tweaking its own legal definition of foreign income to align with the federal definition, the state protects an additional $90 million in tax revenues in FY2026.
3. Third, P.A. 104-0453 removed the sunset date of Illinois’s pass-through entity tax “workaround”, providing continued federal tax relief to individuals subject to the SALT (state and local tax) deduction cap.

These changes, combined with better-than-expected sales tax and individual income tax revenues received to date, will help the State close a projected $267 million budget gap in FY2026. The changes will also contribute modestly to closing a far larger projected $2.2 billion gap in FY2027—a gap which reflects essentially flat revenues due to slowing growth and continuing H.R. 1 impacts in the face of a $1.9 billion increase in expenditures. 

Going forward, Illinois must weigh the administrative simplicity and economic incentives of tax code conformity against the need for local fiscal stability, making selective, strategic decisions on federal-state tax alignment in a world where federal-state relationships are undergoing significant change. 

Why Federal Tax Policy Matters To Illinois

Illinois is one of 26 states whose income tax provisions “roll with” changes in the federal Internal Revenue Code (IRC). That is, Illinois’s income tax structure has rolling conformity with federal tax provisions, automatically aligning with the current IRC. Explicit state action is typically needed to “decouple” the state’s provisions from the federal code.[1] In general, alignment through conformity simplifies state tax returns, benefiting both taxpayers and tax administrators, including taxpayers with tax liabilities in multiple states. 

Non-conformity, on the other hand, adds complexity to tax compliance, as “documenting and tracking the differences between federal and state taxable income invariably leads to audit issues”. So why don’t states fully conform and simply adopt federal code provisions as-is? Well, it’s complicated. 

Some federal IRC changes will help states while others will hurt them, so states may selectively conform or decouple based on predicted revenue impacts on their budgets. More generally, because non-conformity provides states with greater fiscal autonomy in managing their affairs and preserving state tax revenues, states may act “to protect their budgets and residents from unpredictable or unfavorable federal tax policy changes," according to one expert. 

Under the pre-H.R. 1 status quo, Illinois, like many states, had selectively decoupled from and conformed to various tax provisions, resulting in a somewhat complex tax structure. For instance, the State had long ago decoupled from net operating loss provisions and from Section 168(k) bonus depreciation provisions. With H.R. 1’s changes, Illinois faced negative and significant revenue impacts: in the absence of state action, the Governor’s Office of Management and Budget (GOMB) estimated in October 2025 that H.R. 1’s tax code provisions would cost the State of Illinois over $830 million in tax collections in FY2026 alone. Further, it is worth noting that Illinois is not alone in facing potential revenue hits from H.R. 1: the Tax Foundation’s state-level estimates point to billions of dollars in revenue losses should states simply allow H.R. 1’s changes to flow through to their state-specific income tax codes. 

Thus, Illinois and other states face choices: conform or decouple, provision by provision?  Spoiler alert: Illinois, like some other states, has so far acted to protect its revenues, decoupling from provisions that threaten to decrease state tax collections (but potentially boost business investment) and embracing provisions that promise to protect or increase state tax collections.[2] 

Illinois’ Response to H.R. 1

For individuals, H.R. 1’s provisions serve to increase deductions from income in multiple ways—for example, through exclusion of tips income and by allowing auto loan interest deductions. At the federal level, these provisions reduce taxable income, thereby decreasing individual tax liabilities. At the state level, however, Illinois is unaffected because the “starting point” for the State’s individual income taxation is the federal measure of adjusted gross income (AGI)—that is, income before standardized and itemized deductions. H.R. 1’s “below the line” deductions, therefore, affect federal but not state taxable income and liabilities.[3] Further, these deductions seem unlikely to generate meaningful investment incentives. On balance, then, Illinois officials can essentially ignore these federal tax code changes, as they have little to no direct effect on the state treasury.

The situation for business taxes is quite different. We discuss three key H.R. 1 business tax provisions below: 

1. H.R. 1 aimed to incentivize business investment by reducing federal tax liabilities, primarily via more generous “expensing” provisions, which allow business taxpayers to “write off” (deduct) more—indeed, sometimes all!—of a given business investment during the year in which it is made;
2. It changed the tax treatment of corporations operating internationally; and
3. It increased the state & local tax deduction cap on individuals from $10,000 to $40,000. 

Absent state action, some of these changes would increase state tax collections, while others would decrease those revenue streams. In the fall, the Governor’s Office released a report estimating the negative revenue impacts to Illinois, anticipated to exceed $830 million in FY2026 alone. In response, the Illinois legislature passed Senate Bill 1911 during its fall veto session, decoupling from selected provisions expected to decrease tax collections and essentially retaining conformity with certain provisions expected to increase tax collections. The legislation, now signed by the Governor as P.A. 104-0453, will mitigate the impact of H.R. 1 and help close an estimated $267 million operating budget gap for FY2026.

Expensing of Certain Business Investments

H.R. 1 allows businesses to immediately deduct the full cost of “qualified production property” investments, thereby incentivizing investments in structures and facilities by manufacturers and other producers. This Internal Revenue Code Section 168(n) deduction is available for investments on or after January 20, 2025, as long as the property is placed in service by the end of 2030, and the provision has numerous rules that must be met before it can be applied.

Under prior law, businesses typically had to amortize such investments over time—up to 39 years in many cases; that is, they could deduct from income only a portion of their investments according to set depreciation schedules. As argued elsewhere, depreciation makes sense from an accounting perspective (“What is the value today of a machine installed two years ago?”) but not from a tax perspective. By permitting full expensing—full deductions from income in the year of the investment--instead of amortizing over many years, the new provision significantly decreases taxable income in the near term. Expensing increases the present value of these deductions from income, providing potentially powerful incentives for firms to increase their investments in production facilities.[4] 

Implications for Illinois

Increased income tax deductions directly imply lower taxable business income, and, absent state action, Illinois faced an estimated FY2026 tax revenue loss of $144 million; the Tax Foundation’s estimate was $153 million. P.A. 104-0453 “undoes” this expensing provision by requiring businesses to add back their “bonus” depreciation deductions for these investments to their adjusted gross income. The “price” of this decoupling, of course, is added complexity in tax administration and weakening of the business investment incentives Congress intended to create via H.R. 1. 

Treatment of International Income

Prior to the passage of H.R. 1, U.S. firms with foreign subsidiaries were subject to a global intangible low-taxed income (GILTI) tax intended to discourage profit-shifting, whereby firms shifted profits to low-tax jurisdictions (countries). According to the Tax Policy Center, GILTI was “intended to approximate the income from [highly mobile] intangible assets (such as patents, trademarks, and copyrights) held abroad.” By adding GILTI to a firm’s taxable income and subjecting it to corporate income taxation, the federal government sought to discourage aggressive shifts of these assets to low-tax countries. This pre-H.R. 1 regime was complicated, involving offsets, credits for foreign taxes paid, deductions (“qualified business asset investment” (QBAI) exclusion), and various approximations. Still, in essence, it served (imperfectly) to limit the under-taxation of corporate income earned abroad.

H.R. 1 made several key changes to the tax treatment of business income earned abroad, essentially aiming to broaden the tax base while providing increased credits for foreign taxes paid. These changes included: 

• Changing the name of the tax from GILTI to NCTI, or “Net CFC Tested Income” (NCTI), where CFC refers to controlled foreign corporations in which U.S. shareholders own more than 50% of the corporation.
• Eliminating the QBAI, bringing all foreign net income into the tax base.
• Reducing an income deduction from 50% to 40%, also increasing the tax base.
• Increasing the credit for foreign taxes paid from 80% to 90%, which decreased the tax base.

These changes, along with new provisions related to where and how firms can deduct certain expenses from income, thus reducing taxable income and tax liabilities, were expected to be revenue neutral or even generate net tax cuts at the federal level. 

Implications for Illinois

H.R. 1’s changes to the treatment of income earned by foreign subsidiaries are expected to have opposite effects on state corporate income tax collections: that is, conformity would likely raise state corporate income tax collections, not decrease them. Two factors underpin this perverse effect: Illinois, like most states, does not allow deductions from business income of foreign taxes paid; and its “single-sales factor” apportionment rule means that the share of a corporation’s income subject to Illinois state taxation equals the share of the firm’s domestic—excluding foreign—sales that took place in Illinois. Both features (no deductions for foreign taxes paid and apportionment based on domestic sales only) increase the tax base and tax liabilities of corporations active in Illinois that also earn international income. 

While Illinois conformed to the pre-H.R. 1 GILTI regime, it did so by referring specifically to GILTI by statute—meaning that under H.R. 1, absent state action, Illinois would lose the ability to include foreign-earned income in its corporate income tax base at all. To retain substantive conformity with the new federal rules, P.A. 104-0453 tweaked the concept of taxable income to refer to GILTI or NCTI. In other words, the legislation changed the definition of international income to align with that of H.R. 1. This change meant that Illinois would continue to collect the additional revenues expected when it changed its own treatment of GILTI at the start of FY2026.[5]

Thus, in this instance, the State chose to essentially conform to the new provisions, protecting $90.0 million in state corporate income tax revenues in FY 2026. In this instance, the State’s choice of conformity eases compliance and protects state revenues, but it does so at the expense of fairness in taxation: state taxable income increases with foreign tax payments, thus exacerbating the “double taxation” implicit in this structure; and domestic-based apportionment shares continue to punish firms with high levels of foreign-derived gross sales. 

SALT Cap and Pass-Through Entity Tax Provisions

Another H.R. 1 provision of interest has no direct impact on state revenues but warrants mention nonetheless. Specifically, H.R. 1 increases the individual cap on itemized SALT (state and local tax) deductions from $10,000 to $40,000, with a phaseout for high-income taxpayers. The change is effective for tax years 2025-2030. Increasing the cap provides federal tax relief, primarily to high-income taxpayers and those living in states with higher state and local taxes.[6]

Because the SALT cap, first put in place in the 2017 TCJA, applies to individuals and not to pass-through entities such as partnerships and S-corporations, many states—including Illinois—created tax law workarounds to allow the entities to pay the individual state and local taxes. These pass-through entity taxes (PTET) are reported and paid by the business entities themselves—without facing the limitation placed on individuals—before distributing taxable income to individual owners, who would be subject to the cap if paying the taxes at the individual level. Illinois’s PTET, established via P.A. 102-0658 in 2021, was set to expire at the end of 2025, and P.A. 104-0453 removed this sunset date.

While not direct determinants of the State’s income tax collections, the SALT cap and PTET workaround have complicated the recent treatment and categorization of income tax payments made by pass-through entities in Illinois. In fact, a large increase in tax payments by pass-through entities since 2021 led to overstated corporate income tax revenues and understated individual income tax revenues—and to painful if temporary “true-ups” of revenue classifications and “claw-backs” of related personal property tax replacement tax (PPRT) revenues directed to local governments. With the PTET provisions now made permanent, near-term state income tax collections are best viewed in aggregate as the sum of individual and corporate income taxes, as the recategorization and true-up processes work through the system.

What Might Come Next

The State’s economic and fiscal policy report and its recent update highlight H.R. 1’s potential budgetary impacts from tax code changes, as well as programmatic changes to Medicaid and SNAP, and fiscal threats from other potential shifts in federal policies and priorities. P.A. 104-0453 “undoes” significant negative tax-code driven revenue impacts for FY2026, though there remain significant expected tax-related impacts in current FY2026, in part due to complexities related to effective dates, estimated tax payment deadlines, and final tax payment dates. 

Of the remaining H.R. 1 tax-related provisions, the one with the largest revenue impact in FY2026 is the return of full expensing of research and experimental (R&E) expenditures. Hence, one future possibility is that the State chooses to decouple somewhat from this federal policy. Other states may do the same during this budget cycle: For example, Governor Kathy Hochul of New York has proposed a FY2027 budget that would decouple from both the R&D provision and the “bonus depreciation” provisions, saving the State an estimated $1.4 billion in revenues.

Nonetheless, the changes enacted in Illinois so far, combined with better-than-expected sales tax and individual income tax revenues received to date, will help the State close a projected $267 million budget gap in FY2026. The changes will also contribute modestly to closing a far larger projected $2.2 billion gap in FY2027—a gap which reflects essentially flat revenues due to slowing growth and continuing H.R. 1 impacts in the face of $1.9 billion more in expenditures. 

In fact, recently updated projections indicate that as of mid-fiscal year, the State was on track to meet its general funds revenue target of $55.3 billion in the current fiscal year, as weakness in corporate income taxes and federal funding has been offset by strength in individual income and sales taxes. That said, there remains considerable uncertainty about revenues in the second half of the current fiscal year, not to mention unpredictable federal government policies and priorities that pack a significant fiscal punch. The Governor’s recommended budget, due to be released on February 18, will no doubt reflect the most recent assessments of economic conditions, federal government supports, and revenue dynamics, and the Civic Federation will share its analysis and recommendations as appropriate over the next few months.

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