Estate Tax Repeal to Hurt State Revenue

At a time when energy woes and a slowing economy are threatening California’s fiscal health, Congress’ repeal of federal estate taxes is expected to cost the state $356 million next year and more than $1 billion annually by 2005.

In fact, California stands to lose more money than any other state as the repeal legislation reduces the number of people who face the estate tax and chokes off the portion of federal revenue that used to be diverted to the states.

“Given the circumstances we find ourselves in right now, this certainly will make future budgets tighter and more difficult,” said Brad Williams, senior economist for the California Legislative Analyst’s office.

Few state officials were willing Wednesday to publicly criticize the popular repeal plan, despite the cost. State Controller Kathleen Connell said that estate tax repeal was supported by most Californians, who eliminated the state’s own estate tax by a 64% majority in a 1982 referendum.

“Any loss of revenue, when we’re impacted doubly by the energy crisis and the slowing economy, is going to be painful,” Connell said. “But I find it hard to argue against eliminating the federal tax when we eliminated our own.”

Although California repealed its own estate tax, it--like every other state--continues to collect a portion of the federal taxes levied each year on the estates of affluent Americans who die.

This so-called state death tax credit has been part of federal estate tax law since 1926, and essentially allows states to coordinate their own estate taxes with that of the federal government.

States that don’t have estate or inheritance taxes of their own collect the full amount of the credit they’re allowed under federal estate tax law. Many of the 12 states that have their own estate tax systems collect the difference between the federal credit they’re allowed and the amount of money they collect directly from their citizens.

California, thanks to its huge population and wealth, is by far the largest recipient of the credit. The Golden State received $937 million in estate tax revenue in fiscal year 1999-2000--an amount equal to 1.3% of the state general fund, according to the Center on Budget and Policy Priorities, a nonpartisan research group. Nationwide, states collected more than $5.5 billion in 2000, according to the group’s figures.

To reduce the overall cost of estate tax repeal, however, Congress decided to phase out the states’ ability to collect this revenue--and to do it twice as fast as the phase-out of estate taxes overall.

By 2005, the states will no longer receive a portion of federal estate tax revenue, even though the federal government is scheduled to continue collecting estate taxes until 2010. The changes were part of the $1.35-trillion tax cut approved by Congress on Saturday.

Congress’ repeal plan also will decrease the number of people who are subject to the tax by 40% by raising the amount of money that can be passed tax-free to heirs. Next year, for example, people who die can leave up to $1 million without having to pay estate taxes, up from $675,000 this year.

Congress’ changes are expected to cost California $356 million in fiscal year 2002-2003, said Sandy Harrison, assistant director for the state Department of Finance. That’s enough money to pay salaries and benefits for nearly 12,000 beginning teachers, said Mike Myslinski, spokesman for the California Teachers Assn.

The losses will mount to $1.1 billion by 2005 and $1.5 billion by the time the federal estate tax is scheduled to be eliminated on Dec. 31, 2009.

California is facing other strains on its budget, including more than $7 billion spent so far to purchase electricity and a $5.6-billion drop in taxes collected from stock options and capital gains, thanks to stock market slowdowns.

But California isn’t the only state that will suffer. Florida collected $779 million last year--4.1% of its general revenue--while New York collected $450 million, or 1.3% of its revenue, from the state death tax credit, according to the research group’s figures.

Nevada--which like Florida has no personal income tax--may take the biggest hit. Nevada collected $76.7 million from federal estate tax revenue, an amount equal to 4.9% of its general fund revenue.

“[Nevada and Florida] don’t have a personal income tax, so they’re more reliant on other sources of revenue,” such as the estate tax, said Arturo Perez, senior policy specialist for the National Conference of State Legislatures.

Unlike most other states, Nevada segregates estate tax money into a special endowment fund to pay for education, including University of Nevada programs, state officials said.