New York Estate Tax Law Changes Are Paid For By Taxing INGs?

On March 31, 2014, New York State enacted legislation that would begin to raise the New York estate tax exclusion over five years to eventually equal the federal figure.

The table set out below shows the increases and the effective dates of such increases. Most readers will agree that everything has a price and, as one would expect, the revenue lost from the estate tax would be made up from another source.

NY Estate Tax Exclusion Increases

For decedents on or after	And before	The exclusion amount will be
April 1, 2014	April 1, 2015	$2,062,500
April 1, 2015	April 1, 2016	$3,125,000
April 1, 2016	April 1, 2017	$4,187,500
April 1, 2017	Jan 1, 2019	$5,250,000
April 1, 2019		Scheduled to equal the federal estate tax exemption

The New York State legislation has two additional provisions that are worthy of attention.

Three Year Look Back – New York added a provision that would pull gifts made between April 1, 2014 and 2019 back into the estate tax calculation. The State felt this was necessary to protect the tax base. The logic is sound as taxpayers could make that would not be part of the tax base and gain the benefit of the increased exclusion as well. An individual could make a taxable gross estate of $3,000,000 non-taxable for New York State purposes by simply giving away $1,000,000 today.

The Real Change – New York state expects to collect considerable income tax revenue by taxing certain trusts in a manner that is contrary to IRS federal treatment. Thus, New York will treat the trust as a grantor trust, in contrast to the federal system where the non-grantor trust is a separate taxpayer.   Incomplete Non-Grantor Trusts (INGs) have been targeted and eliminated as a means of avoiding New York State income tax. Considering that the New York State income tax rate is currently 8.82% and the New York City rate is 3.876%, one understands why taxpayers establish INGs to avoid the state income tax. The acronym ING is sometimes preceded by a “D” for Delaware or an “N” for Nevada.

INGs provide a benefit when there is a large capital gain to be realized by an individual in a high tax state, such as New York or New Jersey. INGs are also used when intangible assets, such as stock or membership interests, are to be sold. In such a case, a New York resident forms the ING in another state prior to sale. Taxpayers rely on two things. First, the state of a taxpayer’s residence, such as New York, taxes trusts based on the trustee’s residence rather than that of the grantor or creator. It is easy to understand why Delaware and Nevada, states that do not tax non-resident beneficiaries, are popular places in which to establish INGs. Second, distributions of principal made in years after the sale will be non-taxable distributions.

For those persons active in the foreign tax area, they recognize a principal feature of drop-off trusts in the development of INGs. It will be an interesting spring for advisors to the address impact of the change in law of existing INGs and plan for the future.