These 2 States Killed Their Estate Tax in 2018

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The successful passage of the new tax reform laws will make a big difference for Americans across the nation in early 2019 when they file their income tax returns for the 2018 tax year. Among the many provisions of the bill were measures that doubled the exemption amount for the federal estate tax, effectively leaving Americans beyond the reach of the death tax until their net worth hits eight figures.

What many people don't realize is that many states still impose estate taxes of their own, and in some cases, the amounts that states allow their residents to give to future generations tax-free is a lot less than what federal law provided. Yet there's been a trend toward less estate taxation at the state level as well, and at the beginning of 2018, residents of two states -- New Jersey and Delaware -- saw the estate taxes in their states disappear. Below, we'll look at the reasons why those states did what they did, as well as why New Jersey residents still aren't entirely in the clear when it comes to taxes at death.

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What Delaware did

In July 2017, Delaware joined the growing ranks of states that don't charge estate taxes to their residents. The measure took effect on Jan. 1.

Delaware's history of estate taxation was short and not terribly successful. The tax was implemented back in 2009, originally seen as a temporary measure to enhance state revenue following the 2008 recession. The estate tax, however, never generated very much money, pulling in as little as $1.3 million during 2014. Such a small and volatile tax didn't make a big impact on the hundreds of millions of dollars in shortfalls that Delaware faced last year when Gov. John Carney Jr. signed the repeal into law.

What Delaware lawmakers found was that the negative impact of driving older residents out of the state far outweighed any positives from incremental tax revenue. Conversely, by getting rid of the estate tax, lawmakers now hope that older residents will stay and help support the local economy -- while at the same time hopefully still paying state income tax on their investment earnings and pension income. That trade-off could end up in the favor of both taxpayers and the state government.

New Jersey's estate tax phaseout is complete

Delaware isn't alone in moving to repeal estate taxes. New Jersey began the process of doing so back in 2016, with Gov. Chris Christie signing into a law a measure that provided for a phaseout of the death tax. In 2017, the exemption from estate tax rose from $675,000 to $2 million. Effective Jan. 1, decedents will no longer owe any estate tax at the state level.

However, New Jersey residents aren't in the clear when it comes to taxes imposed at death. New Jersey also has an inheritance tax, which is imposed on the recipients of gifts from estates rather than on the deceased person's estate itself. Under the provisions of the inheritance tax, New Jersey taxes gifts of more than $500 at rates of between 11% and 16%. Many immediate family members, including spouses, children, grandchildren, parents, and grandparents, are completely exempt from the tax. However, siblings get only a $25,000 exemption, as do the spouses of children. More distant relatives and others not related to the deceased person get only the $500 exemption.

Competition between states

Like Delaware, many states with high tax burdens like estate taxes have found that they're seeing their older residents move out of state after they retire. That results not only in fewer people to pay for essential services but also for a huge outflow of financial assets, especially for those motivated to leave due to estate taxation.

Given the demographics that have a rising number of baby boomers entering retirement, you can expect more states that still have estate taxes to consider dropping them in an attempt to keep their older residents in-state. The lure of better weather might still lead to some retirees to seek greener pastures, but at a time when most state governments are under fiscal pressure, it makes sense that state lawmakers are making the effort to eliminate taxes that drive the wealthy away.

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