As you advise your clients that they should be updating their estate plan (or, if they do not have one, that the need to establish one immediately), the question of taxes probably comes up often. We always ask our clients what their objectives are, and “saving on taxes” is frequently in the top three responses. However, there is currently no estate and gift tax in California and the current Federal exemption of $11.4 million makes it unlikely that the average client will need to worry too much about estate and gift taxes. For those clients, we focus more on income tax planning. However, as I tell my clients, “we never know what the tax laws will be at the time of your death – they are changing all the time.” And as it turns out, change may be on the horizon. A new bill has been proposed in the California Senate that would impose a California gift, estate and generation-skipping transfer tax (GST) beginning on January 1, 2021. This newly proposed 40% tax, if enacted, would apply to all gratuitous transfers during the life and upon the death of a California resident. This is similar to the current Federal tax. However, Federal law currently provides an exclusion amount of $11.4 million (this means that you have to give away more than $11.4 million dollars during your life and upon your death combined, before the 40% tax is applicable). On the other hand, the new law being considered for California would kick in at just $3.5 million. Only 18 other states in the country (and the District of Columbia) impose some form of tax on transfers upon death and only one (Connecticut) imposes a gift tax. A helpful chart reflecting the estate and gift tax rules in each state across the country, is available from the American College of Trust and Estate Counsel (ACTEC) here:
A few technical matters that are of note regarding this newly proposed legislation:
There is a proposed credit given for all federal and estate gift tax paid – this generally means that the new California tax would only be paid on estate values between the proposed California exemption of $3.5 million and the applicable Federal exemption, which is currently $11.4 million.
No future adjustments have been introduced (yet). While the Federal exemption increases every year based upon a specific index, the currently drafted bill does not include any adjustments for the California exemption.
The California bill includes a GST tax component similar to Federal law. The proposed GST tax is also at a 40% rate, and would be imposed on transfers to related individuals that are more than 37.5 years younger than the donor.
The proposed California law significantly deviates from Federal law in that it does not provide for a separate marital deduction. Some commentators have speculated that this is an oversight and expect this to be amended while the bill is being considered by the Legislature. There is also no “portability” component similar to Federal law. Portability, at the Federal level, allows the surviving spouse to “port over” any unused exemption from their deceased spouse. Essentially, this gives a married couple the ability to use the full Federal exemption of both spouses (currently $22.8 million) without using trust-based estate planning as long as they are careful to timely make the correct elections with the IRS.
Funds collected from the newly proposed bill would, at least in part, be used to create the “Children’s Wealth and Opportunity Building Fund.” The stated purpose of this fund is to “directly address and alleviate socioeconomic inequality and build assets among people that have historically lacked them.”
This proposed legislation is still very much in the consideration stages. It would have to be passed by the Legislature, signed by the Governor and then ratified by California’s voters in the 2020 election. It is being reported that the Governor and Legislature both generally support this new bill, but the extent of voter support in California remains unclear.
The full text of the proposed legislation can be viewed directly from the California Legislature’s website here:
We are following this new legislation carefully and with immense interest in the outcome.