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The Other Estate Tax: Growing Complexity of State-Level Estate Taxes

2 min readBy: Andrew Chamberlain

In the debate over reform of the federal estate tax, it’s often overlooked that many states have estate taxA tax is a mandatory payment or charge collected by local, state, and national governments from individuals or businesses to cover the costs of general government services, goods, and activities. es of their own. And since the enactment of the Economic Growth and Tax Reconciliation Act of 2001 (EGTRRA), the overall picture of those state-level estate taxAn estate tax is imposed on the net value of an individual’s taxable estate, after any exclusions or credits, at the time of death. The tax is paid by the estate itself before assets are distributed to heirs. es has gotten dramatically more complex.

Prior to 2001 most state-level estate taxes were linked to the federal tax, and simply existed to absorb a credit offered to states by the federal government. However, once EGTRRA began slowly phasing-out the federal estate tax, some states began “decoupling” their estate taxes to keep from losing revenue.

Currently, some 24 states and District of Columbia have their own free-standing estate taxes—each with their own rates, definitions and exemption levels—dramatically complicating the estate tax landscape.

Yesterday’s MarketWatch featured an excellent overview of the ongoing sage of diverging state-level estate taxes in the wake of federal estate tax repeal:

When people think about relocating to a cheaper place after they retire, they often look to states that don’t have an income tax. But these days, they should also look at a state’s estate-tax law before making plans to move.

Thanks to a federal law that’s been phasing in over the past few years, states’ share of federal estate-tax revenue has fallen to zero, from 16% in 2001, says Charles Fox IV, an estate-tax expert and a partner with the law firm McGuireWoods LLP. Fox is based in Charlottesville, Va.

Budget-challenged states are feeling the pinch. And some states have responded with some form of estate or inheritance levy of their own.

All told, about 24 states plus Washington, D.C., now have some kind of estate or inheritance taxAn inheritance tax is levied upon an individual’s estate at death or upon the assets transferred from the decedent’s estate to their heirs. Unlike estate taxes, inheritance tax exemptions apply to the size of the gift rather than the size of the estate. , although not all of those laws are new, according to CCH Inc., a Riverwoods, Ill., tax publisher.

In the past, the federal government essentially shared estate-tax revenue with the states. Then the major tax law of 2001 eliminated that practice, phasing the change in over several years. By 2005, states no longer received a portion of what the federal government collected. For many states, “that was their only source of revenue” from estate taxes, Fox said.

Some states, including California, Florida, Michigan, Mississippi, Missouri and Nevada, don’t charge residents an estate tax, so people in those states face only the federal estate tax. But in the states that do have a tax, it’s now surprisingly easy to get ensnared.

Although the federal law currently exempts the first $2 million of an estate, the threshold in some states is much lower. Add up your home’s value, a retirement account or two and other dribs and drabs, and your estate may top your state’s threshold.

Read the full piece here. For more on the economics of estate taxation, see our “Estate and Gift Taxes” section.