An earlier blog post began an analysis of “state” estate tax which is imposed on citizens of certain states where an estate tax is in existence. The effect of state estate tax is exemplified in the area I live / work. I live in Minnesota; and my clients are from both Minnesota, and North Dakota. I have often seen situations where a Minnesota decedent with less net-worth was taxed (estate tax) more than a higher net-worth North Dakota decedent. This is because Minnesota has a state estate tax, and North Dakota does not. Minnesota’s estate tax law states that if a person dies having a taxable estate exceeding $1,200,000 (2014), then anything in excess of the exemption will be taxed. The tax rate is subject to an in-depth formula, but it generally averages to be roughly 15%.
Let me explain with an example. Assume there are two farms: one in North Dakota, the other in Minnesota; each separated geographically by the Red River of the North. The Red river forms the border between Minnesota and North Dakota, so these farms are neighboring, but for the river separation. The land is similar in productivity and value. Both owners of the respective farms are single persons who have moved off the farm, and who do not have farming heirs. The North Dakota resident has a total taxable estate of $5,200,000. The Minnesota resident has a total taxable estate of $4,200,000.
Both farm owners die in 2014. The North Dakota decedent has a taxable estate of $5,200,000. North Dakota is “coupled” with the federal government, meaning they do not have a separate state estate tax, and follow the federal guidelines. The federal estate tax exemption for those dying in 2014 is $5,340,000. The North Dakota decedent’s net worth of $5,200,000 falls below the 2014 exemption; thus, he is able to pass his entire estate to his heirs estate tax free.
The Minnesota decedent is subject to different rules. As discussed earlier, Minnesota is a state which has its own state estate tax. The exemption for those dying in 2014 is $1,200,000 per person. The Minnesota decedent had a taxable estate of $4,200,000. This puts him under the federal exemption ($5,340,000), so there will be no federal estate tax. However, he is $3,000,000 OVER the Minnesota state estate tax exemption. $3,000,000 x 15% (estimated) equals $450,000. The result is that before assets can go to the Minnesota decedent’s heirs, this tax must be addressed.
To sum it up: the North Dakota decedent – who had a net worth of $5,200,000, a million dollars greater than the Minnesota decedent - was able to leave his entire value to his heirs, without being subject to estate taxes. The Minnesota resident was unable to: the Minnesota decedent’s estate owed a tax of $450,000. What a difference a border makes, huh?!?