The Tax
Foundation recently released a report comparing state inheritance and estate taxes for 2014. In
addition to federal estate taxes, individual states can choose to levy their
own estate and inheritance taxes. Estate taxes are levied against the estate of
the deceased regardless of who inherits the assets (except for property left to
a surviving spouse, which is exempt). However, inheritance taxes are charged on
the transfer of assets to heirs based on the relationship of the deceased to
the inheritor.
Estate taxes
impose a higher tax burden on state residents than federal estate taxes, and state
inheritance tax laws may have a significant effect on the way a person chooses
or is able to transfer assets upon his or her death. States that impose these “death”
taxes drive residents out of state to retire in states with “warmer” estate and
inheritance tax climates.
According to the
Tax Foundation’s report, fifteen states and the District of Columbia currently
levy an estate tax in addition to federal estate taxes, and six states impose
an additional inheritance tax. Maryland is one of only two states that levy
both an estate and inheritance tax on its residents (the other state is New
Jersey).
However, there
is some good news. In March, the Maryland General Assembly passed and the
governor signed a
measure that gradually raises the amount exempt from the state’s estate tax
to coincide with the more generous exemptions allowed by federal estate taxes. The reform increases the amount exempt from the state estate tax from
$1 million this year, to $1.5 million in 2015, $2 million in 2016, $3 million
in 2017, and $4 million in 2018. By 2019 it will match the federal exemption
which is projected to be $5.9 million, up from $5.34 million today (indexed for
inflation).
The Maryland
legislature should be applauded for initiating this reform process. But there
are still more reforms to Maryland’s state tax policies that should be
undertaken. First, Maryland legislators should repeal or reduce the state’s 10%
state inheritance tax. Even if no state estate tax is due thanks to the
exemption or other factors, Maryland residents may owe a separate inheritance
tax depending on the relationship of the parties inheriting assets with the
deceased.
As the Tax
Foundation’s map below shows, neighboring states like Pennsylvania and Delaware
only impose either a state estate or a state inheritance tax on residents. Delaware
alleviates this tax burden by allowing the second highest exemption threshold
in the country -- over $5 million (trailing only Hawaii). And Virginia and West
Virginia do not impose either state estate or inheritance taxes.
According to the
Tax Foundation “state and inheritance taxes have large
compliance costs, have been shown to suppress entrepreneurship, and are among
the most harmful taxes to economic growth.” In addition to whatever other more
direct negative economic effects they cause, high inheritance and estate taxes
have another negative effect: they spur migration out of the state.
I have
previously written about the effect of state tax policies on interstate
migration on the FSF blog. In high-tax states like Maryland as
well as New York, Illinois, and Connecticut, taxes were a major factor in
residents’ decisions to leave the state according to a Gallup poll. Maryland’s poor business tax climate is
partially to blame for this effect, since the state ranked number 33 in ALEC’s
2014 annual state economic outlook “Rich States, Poor States.” And, Maryland ranked near the bottom
of the Tax Foundation’s State Business Tax Index at number 47. But estate and inheritance
taxes are clearly a factor as well.
This type of thinking is also common in other
states that levy a high estate or inheritance tax on residents. For example,
the Illinois Policy Institute recently reported that state “death” taxes “chase
wealthy retirees out of state.” Illinois loses a large number of residents who
migrate to states with no “death” taxes. Commonly, Illinois residents are drawn
to Florida, Texas, Indiana, and Wisconsin, which have no estate or inheritance
taxes and also have a better business tax climate and no state income taxation.
The reforms to
state estate taxes recently adopted by the Maryland legislature, commendably,
are a step in the right direction. But, clearly more work needs to be done to
improve Maryland’s tax climate. Policymakers in Maryland should consider state
tax reforms that encourage entrepreneurs to start and keep business in state,
foster a healthy business climate, and discourage wealthy residents from
retiring elsewhere. Doing so will help keep investment, consumer spending and
wealth in state for the benefit of present and future residents of the Free
State.
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