PHOENIX - Hundreds of thousands of Arizonans who received state tax rebates last year aren't going to get back the $20.8 million they had to pay in federal income taxes on the money.

U.S. District Court Judge Murray Snow tossed out claims by state Attorney General Kris Mayes that the one-time payments - up to $750 per family - were exempt from federal taxes under rules adopted by the Internal Revenue Service. Mayes cited rebates in other states where recipients got to keep all the money.

But Snow, in a new ruling, said what Arizona did is different. And that, he said, means the IRS ruling and the tax liability on the proceeds was correct.

Snow also said that only the people who actually say they were injured by the IRS decision - the individual taxpayers - have the right to sue.

Attorneys for Arizona sought to get around that by claiming the state itself was harmed to the tune of about $480,000. That is based on arguments that, had those affected Arizonans actually kept their money instead of paying it in federal taxes, would have spent it in the state on items subject to state and local sales taxes.

Snow called it "speculative.''

He said, even the state in its pleadings, admitted that the only certainty was that if Arizonans had retained the money they would have been free "to spend as they saw fit.''

A spokesman for Mayes said she disagrees with the ruling "and continues to believe the tax relief provided to Arizonans by their state government should have remained in their pockets, not unfairly snatched by the IRS.'' But Richie Taylor said he could not comment on whether there would be an appeal.

All this stems from a provision in the 2023 budget - when the state had a surplus - to provide a rebate to families of $250 for every child younger than 17 and $100 for older dependents, up to a maximum of $750 per family. That generated about $260 million for 750,000 Arizona families.

The IRS told the state Department of Revenue that it considered such payments subject to federal income taxes.

Based on that, the state issued a 1099-MISC form to each rebate recipient. That covers certain types of miscellaneous compensation, including prizes, that are not covered by other documents federal law requires to be issued.

A copy of those forms went to the IRS - just like a W-2 for wages - making the federal government aware of who got the payments and making the taxpayers liable to report it and pay taxes on it.

The Arizona Attorney General's Office sued.

"When Arizona's elected leaders chose to refund tax revenue to Arizona taxpayers last year, their reasonable expectation was therefore that the money would go to Arizona taxpayers, not to the Internal Revenue Service,'' the state argued in its legal papers. "But the IRS had a different idea.''

The state claimed the payments were not taxable because they were paid out of the general fund to qualifying Arizonans. And the state argued it was not paid as "compensation for services,'' something that would be taxable.

Attorneys for Arizona also pointed out that 21 other states approved rebates of their own. And in each case, the IRS concluded taxpayers in those states owed nothing to the feds.

But Snow noted there is a crucial difference.

Those other states made their payments in 2022. And, in each of those other cases, those payments were part of financial relief from the effects of the COVID pandemic and the federally declared disaster.

We’d like to invite our readers to submit their civil comments on this issue. Email AZOpinions@iniusa.org.