Don’t underestimate state estate taxes

Today’s federal estate tax exemption is generous by historical standards. However, families residing in any of the 17 states and the District of Columbia that levy state estate or inheritance tax should not be complacent. Following are answers to common questions about state estate taxes and how they may impact your inheritance. 

Q. What is the difference between federal and state estate and gift taxes? 

While there has been a lot of discussion about federal estate taxes over the past several years, state estate taxes have often fallen under the radar. At the federal level, each of us may transfer—either during lifetime or at death—up to $13.99 million in 2025 (adjusted annually for inflation) free from federal gift and/or estate tax. Any amount over the federal exemption is taxed at a maximum 40% federal estate tax rate. 

Many states impose separate state estate, gift and/or inheritance taxes on assets transferred during lifetime or at death. Until 2005, most states simply received a share of the federal estate tax in the form of an estate tax credit (also called a “pick-up tax”), so no additional burden was felt by most families. However, under the 2001 tax act, the state estate tax credit was slowly phased out and was replaced with a less valuable estate tax deduction. As a result, many states lost an important revenue source. In response, a number of states “decoupled” from the federal system and enacted their own separate transfer tax systems. Today, 17 states including Connecticut, Massachusetts, Maine and New York, plus the District of Columbia, levy state estate or inheritance taxes, and the rates can be as high as 20%. 

Q. What impact can state estate taxes have on an inheritance? 

State estate taxes can have a meaningful impact on an inheritance, particularly when the family expects that no tax will be due at the death of the first spouse. While the federal exemption is quite high, states will often tax much smaller estates. For example, Oregon only exempts $1 million from state estate and inheritance tax. Exemption levels in several other states range from just over $1.85 million in Rhode Island in 2025 up to $13.99 million, as indexed to inflation, in Connecticut.

To put this into dollar terms, an Oregon resident who dies in 2024 with a $13.61 million estate will owe no federal estate tax. However, since any assets that exceed the $1 million Oregon exemption threshold are taxed, the estate would owe Oregon state estate tax.  

Q. Can families living in states without estate tax be affected? 

Absolutely. Residents of states that do not impose a state estate tax should not be complacent. First, if an individual owns tangible or real property, such as a vacation home, in a state with an estate tax, the individual's estate may be subject to a non-resident estate tax, even if the individual resides in a state without its own separate state estate tax. Second, tax laws can and do change. For example, within the last few years, states such as New York, Connecticut, and Hawaii have modified their existing laws, either by increasing or reducing the amount that can pass free from state estate taxes. Therefore, an individual may suddenly become subject to state estate tax if the state reduces the amount that can pass free from state estate taxes, even if there has been no change to the size of the individual’s estate.

Q. Since state and federal estate tax exemption levels differ, how can families best make use of both exemptions? 

For many families, maximizing the use of the federal exemption through the use of a credit shelter trust funded with the current federal exemption amount remains a priority, even if such a plan would require that a state estate tax be paid at the death of the first spouse. 

Others may wish to avoid or minimize state estate taxes at the first spouse’s death. In that case, there are several planning options which may involve the use of qualified disclaimers, limiting the credit shelter trust to the state estate tax exemption, planning for the “gap” amount between the state and federal estate tax exemptions by utilizing marital trusts and/or maximizing the use of any state Qualified Terminable Interest Property (QTIP) elections. We recommend speaking with your Fiduciary Trust relationship manager or estate planning attorney to determine the most appropriate strategy for your particular situation. 

Q. Can married couples combine their individual exemption amounts? 

Yes and no. Federal law allows for “portability” of federal estate and gift tax exemptions between spouses. In simple terms, if an individual dies without having used his or her full federal estate tax exemption, the unused exemption can be used at a later date by his or her surviving spouse, provided certain elections are made on the decedent’s estate tax return. 

That said, portability does not necessarily apply to state estate, gift or inheritance taxes, nor does it apply to the federal generation-skipping transfer (GST) tax exemption. While portability may simplify estate planning at the federal level, it may result in a substantially higher state estate tax bill at the surviving spouse’s death plus additional taxes on distributions to grandchildren at a later date if one’s GST tax exemption is not utilized. 

Q. Can lifetime gifts help to reduce state estate taxes? 

Yes, lifetime gifting is a great option for individuals seeking to reduce their overall estate tax bill. Since most states do  not impose a state gift tax, most people can reduce their state estate tax bill by making lifetime gifts. In most cases, assets transferred during life will not incur a state level gift tax and will not be subject to state estate tax at the donor’s death. We recommend consulting with your local estate planning attorney before making substantial lifetime gifts, as the state laws vary and some states, like New York, “claw back” gifts made during the three years prior to death into the taxable estate for state estate tax purposes.