Don’t die in New Jersey

Don’t die in New Jersey.
New Jersey, as many states, has decoupled from the federal estate tax
system. While the Federal exclusion is $2M in 2008 and is to increase to $3.5M
in 2009, it remains a paltry $675,000 for the NJ estate tax.  Now NJ is seeking to backstop the
revenue from this lower exclusion in a manner that is complex, unfair, and
troubling.

The NJ Division of Taxation
adopted new regulations regarding commonly used marital trusts, Qualified Terminable
Interest Property trusts, “QTIPs.  NJAC 18:26-3A.8.  If an estate makes a tax election for
Federal estate tax purposes a similar election must be made for NJ estate tax
purposes. If a QTIP election does not reduce the Federal estate tax liability,
it will no longer be given effect for NJ estate tax purposes.  This means that unless the estate
exceeds the federal exclusion, $2M in 2008 and $3.5M in 2009, you cannot make a
NJ QTIP. Therefore, the estate is forced to pay NJ estate tax if it is below
the federal exclusion amount. This precludes avoiding tax by only funding a by
pass to $675,000, the NJ exemption amount, which is a common approach in many
wills. Example: You die in 2008 with a $2.5M estate. Your
will bequeaths $675,000 to a by pass trust and the balance to a marital trust
(QTIP) which qualifies for the estate tax marital deduction. There is no
federal tax and should be no NJ estate tax. But this new reg means that NJ
won’t recognize the difference between $2M and $675,000 as a marital deduction
so that your estate will owe tax on this amount! Does this mean that you have
to make an outright marital above the $675,000 for estates under the federal
exclusion amount? Will another type of marital deduction other than QTIP
qualify? Will the tax allocation clause of the will allocate taxes against the
by pass trust undermining your intended dispositive scheme?