Welcome News for Wealthy California Residents
The California Legislature could not get a floor vote for Senate Bill SB 378, which would have reinstated the California estate tax and imposed a new gift and generation-skipping tax on California residents beginning on January 1, 2021. Even if this bill were passed and signed by Governor Newsom, it would need to be placed on the November 2020 ballot and approved by a majority of California voters before taking effect.
Proposed California Estate Tax
California residents leaving an estate worth $3.5 million or more ($7 million for a married couple) would have been subject to the state estate tax at a rate of 40%, which is the same rate as the federal estate tax. The proposed tax would have been phased out at the current federal estate tax exemption of $11.4 million ($22.8 million for a married couple) thus avoiding double taxation. This proposed bill would have essentially brought the estate tax exemption back down to what the federal amount was in 2009.
To illustrate the impact of the California estate tax bill, an individual with an estate of $11.4 million would incur no federal estate tax but would have been subject to the California estate tax in the amount of $3,160,000 ($11,400,000 - $3,500,000 = $7,900,000) @40%. Simply stated, the excess of federal exemption over the California exemption would have been subject to tax.
TCJA and its impact on Estate and Gift Taxes
The 2017 Tax Cuts and Jobs Act (TCJA) dramatically increased the exemption level of the estate, gift, and generation-skipping tax, which is currently $11.4 million per person ($22.8 million for a married couple), adjusted for inflation. Moreover, if the first spouse to die does not use up all of his or her exemption, the remaining amount of the estate tax exemption becomes “portable” and can be utilized by the second spouse, in addition to his or her estate tax exemption.
The annual gift tax exclusion is currently $15,000 per recipient. Spouses together can transfer a total of $30,000 per recipient.
The change in the federal estate and gift tax is set to expire on December 31, 2025, and the exemption will revert to $5.49 million for individuals and $10.98 million for married couples.
Background of California’s Inheritance Tax
California previously had what was called an “inheritance tax”, which acted similar to an estate tax. The primary difference being that the tax was levied on the person receiving an inheritance as opposed to an estate tax, which is levied against the estate itself before property, is distributed to beneficiaries.
In 1982, California voters approved an initiative to repeal the state Inheritance and Gift Tax Law and provide for a state “pick-up” tax utilizing a schedule of credits for state death taxes under provisions set by the Internal Revenue Service. Under this law, the combined federal and state estate tax liability could not exceed the federal tax liability for property located in California. As of January 1, 2005 the pick-up tax was officially phased out under the provisions of the Economic Growth and Tax and Reconciliation Act and was permanently repealed under the American Taxpayer Relief Act, enacted in 2013.
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