What Every Pennsylvania Lawyer Needs to Know about the New Jersey Estate Tax (2004)

By Glenn A. Henkel, JD, LLM, CPA

             Like the Commonwealth of Pennsylvania, the State of New Jersey has “decoupled” the New Jersey estate tax from the federal state death tax credit amount allowed by I.R.C. §2011.  This may be where the similarity between the two states ends.  Since the Economic Growth Tax Relief Recovery Act of 2001 (EGTRRA 2001), many states have “decoupled” their estate tax from the state death tax credit amount.  As many Estate planners know, before EGTRRA 2001, the federal government provided a dollar-per-dollar credit against the federal estate tax in an amount allowed by I.R.C. §2011.  This tax collection represented “easy money” for states because the federal government administered the tax and the states merely received a specified dollar amount based upon the federal rate structure. 

          The EGTRRA 2001 made two significant changes for the states.   First, the increase in the federal estate tax exemption limited the number of estates that would be subject to federal estate tax (thus, cutting state revenue).  Further, over the years 2002 to 2004, the federal government “phased out” the benefit of the tax allowed by §2011.  This loss in revenue (together with declining state revenue from income tax) caused many state legislatures to act – New Jersey and Pennsylvania among them. 

          One of the first differences between the Pennsylvania and New Jersey structure is that Pennsylvania keyed the estate tax exemption to the amounts in effect before EGTRRA was passed.  Due to the increasing exemptions brought about by the 1997 Tax Relief Recovery Act, the Pennsylvania exemption would be scheduled to rise to $1 million by 2006.  New Jersey, on the other hand, treats all decedents dying after December 31, 2001 as if they had died on December 31, 2001.  This has the effect of fixing the state estate tax “exemption” at a fixed-sum of $675,000. See N.J.S.A. 54:38-1(a) (2).   As such, New Jersey resident decedents must be mindful of the state exemption which will remain intact while the federal estate tax exemption rises.   

          Both New Jersey and Pennsylvania enacted this tax in late June 2002 in connection with their fiscal year budget.  New Jersey, however, made this tax retroactive to decedents dying December 31, 2001.  The author is aware of at least one case pending in New Jersey challenging the retroactivity of the tax.  This creates a particular unfairness to individuals who died in that interim period between January 1, 2002 and June 30, 2002 because of the inability to plan for this retroactive change.  Nevertheless, most of these returns have been filed and the tax has paid.  If a finding occurs that the tax is unconstitutional, taxpayers must file claims for refund within three years of payment of the tax.

          While many practitioners in Pennsylvania believe the Pennsylvania estate tax to be unconstitutional due to its graduated rate structure, the New Jersey Constitution bears no similar language regarding the imposition of pro-rata taxes.  An argument can be made that this law in unconstitutional under Article 4, Section 7, paragraph 5 of the New Jersey Constitution.  It prohibits a law from being enacted by reference to a title of the act only.  Also, any part of an act which relies on an existing law (or part) must restate the entire law relied upon at length in the New Jersey statutes.  The theory seems to be designed to give citizens access to the entire provisions of the law relied upon without an “incorporation by reference” of the other law. While it has been held that statutory references in New Jersey law to I.R.C. §501(C)(3) organizations is constitutionally permitted, it remains unclear whether, or to what extent, this provision will have any merit if the New Jersey estate tax is challenged on a constitutional basis.  See, PrincetonTp. v. Bardin, 147 N.J. Super. 557, 371 A.2d 776 (A.D. 1977), certification denied, 74 N.J. 281, 377 A.2d 685. 

          Another difference between the Pennsylvania and New Jersey structure is in treatment to non-residents.  The New Jersey estate tax (at this time) does not apply to non-residents.  As a consequence, a multi-millionaire resident of Pennsylvania with a multi-million dollar beachfront house in New Jersey would not be obligated to pay any New Jersey estate tax, not even its ratable share as the value of the home relates to the total amount of estate death tax credit.  See N.J.S.A. 54:38-1(a) (2) which begins, “Upon the transfer of the estate of every resident decedent…” (Emphasis added).  By contrast, other States have imposed an estate tax on the ratable share of the state death tax credit amount under I.R.C. Section 2011. Pennsylvania residents with New Jersey property should be diligent to make sure that their Pennsylvania domicile is clear after death.

          Like Pennsylvania, New Jersey imposes an inheritance tax on all transfers.  New Jersey has enacted a “waiver” rule for the Estate tax similar to the waiver provisions under the New Jersey Inheritance tax.  By way of background, in order to transfer property from an estate of a New Jersey decedent, the permission of the New Jersey Division of Taxation is needed. This is provided in a form called a “New Jersey Inheritance tax waiver” issued by the Division.  However, since 1988, transfers between decedents and “Class A beneficiaries” (spouse, children, grandchildren, etc.) are subject to tax at a zero (0%) percent rate, and thus are exempt.  See N.J.S.A. 54:34-2.  As such, for many transfers, waivers could be obtained through a “self-executed” format. This was a simple affidavit of a beneficiary indicating that no New Jersey inheritance tax was due.  The waiver provisions were revised after the passing of the New Jersey estate tax to require an additional affirmation that the estate value is less than $675,000.  As a consequence, the “self-executing” waivers no longer apply to many larger estates.  Thus, in order to obtain clearance for distribution of estate assets, a return must be filed, tax paid and the “inheritance tax waiver” must be received from the Division of Taxation.  For a large estate, a Pennsylvania taxpayer may need to obtain a New Jersey inheritance tax waiver on the basis of the exemption granted to non-residents.  Many New Jersey title companies will forego the necessity of a waiver if they are convinced that the decedent was a non-resident. 

          Unlike Pennsylvania, the New Jersey Division of Taxation has adopted new forms for the Estate tax.  These forms can be obtained in the New Jersey Division of Taxation website (www.state.nj.us/treasury/taxation).  The computation of the Estate tax can be based upon two alternate methods – the “simplified” method and the “706” method.  Do not let the name of the “simplified” method fool you, it is no simpler than the “706” method.  The genesis of this provision was the objections of taxpayers (including the New Jersey State Bar Association) as the legislation was being created.  A concern was raised about the returns to be filed for taxpayers who did not meet the federal filing threshold (those estates between $675,000 and $1,000,000 in 2002 and 2003 and between $675,000 and $1,500,000 beginning January 1, 2004).  The statute called for a “simplified” method to be adopted. See N.J.S.A. 54:34-1(c).   In implementing this new method, the Division of Taxation merely based the Estate tax computation on the New Jersey inheritance tax.   The New Jersey Inheritance tax form (Form NJ-ITR) must be completed and the figures on the form are used to complete the “simplified” method for the Estate tax.  Of course, many estates would not be concerned about the filing of the New Jersey inheritance tax return because, while filing is required, no tax would be due if property passed to “Class A” beneficiaries.  Nevertheless, estates in excess of the federal exemption amount must use the “706 method” which requires that the estate information merely be carried over to the state return. 

          The New Jersey estate tax, like the Pennsylvania estate tax, is in its infancy and there remain many questions yet unanswered.  Nevertheless, due to the differences between the New Jersey and Pennsylvania taxes, Pennsylvania practitioners should be cautious. 

          Glenn A. Henkel, Esquire is an attorney practicing with Kulzer & DiPadova, P.A., based in Haddonfield, New Jersey (with an office in Ocean City) and is the Chair of the New Jersey State Bar Association Real Property, Probate and Trust Law Section.