The Massachusetts Estate Tax, the Governor’s Proposal, and Out-of-State Real and Tangible Personal Property

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By: Paul M. Cathcart, Jr., Hemenway & Barnes LLP

The Massachusetts Estate Tax, the Governor’s Proposal, and Out-of-State Real and Tangible Personal Property

In late January 2022, the Baker-Polito Administration filed a “comprehensive tax proposal” which would make several changes to the Massachusetts estate tax, including by increasing the Massachusetts exemption amount; eliminating the so-called “cliff effect” of the Massachusetts estate tax; and modifying the method for taking into account a resident decedent’s out-of-state real and tangible personal property when computing Massachusetts estate tax.[i]  House Bill 4361, 192nd Gen. Ct. §§ 11–12 (filed Jan. 26, 2022).  The first two proposed changes have been publicized and covered elsewhere, whereas the third proposed change has not been and is discussed in this post.

The Massachusetts estate tax is computed based on a decedent’s federal taxable estate, see G.L. c. 65C, § 2A; former I.R.C. § 2011, which in the case of a Massachusetts resident decedent may include value attributable to real or tangible personal property located in states other than Massachusetts.  If those other states also tax the decedent’s estate, Massachusetts allows a credit for taxes paid.  If they do not, the Massachusetts statute purports to subject the out-of-state property to tax in the same manner as the decedent’s other (in-state) property.

Since at least 2016, executors of the estates of Massachusetts resident decedents have been well-advised to consider deviating from what the statute purports to require.  That year, the Middlesex Probate and Family Court held that a resident decedent’s interest in a foreign entity that held foreign real property was an interest in foreign real property and, consequently, not subject to Massachusetts estate tax.  Dassori v. Commissioner of Revenue, Docket No. MI14E0042QC (June 30, 2016).  In that case, the taxpayer argued that the United States Constitution prohibited Massachusetts from taxing out-of-state real property, and the Commissioner of the Massachusetts Department of Revenue did not dispute that argument.  Eric T. Berkman, Estate Tax Application Ruled Unconstitutional, Mass. Law. Wkly., Aug. 29, 2016 (quoting counsel for the taxpayer).  So, although the court did not hold that out-of-state real property is not subject to Massachusetts estate tax, the case further popularized this proposition.

Consistent with Dassori, at least some executors have been advised to report a value of $0 for real and tangible personal property located outside of the Commonwealth.  Compared to reporting at fair market value, this generally has the effect of reducing Massachusetts tax at the highest marginal rate that would otherwise apply.

The Administration’s proposal calls for a resident decedent’s Massachusetts estate tax instead to be reduced in proportion to the value of the decedent’s out-of-state real and tangible personal property (whether or not any other jurisdiction subjects that property to tax).[ii]  Compared to reporting such property at fair market value, this would have the effect of reducing Massachusetts tax at the average rate to which the decedent’s estate is otherwise subject.  Depending on how an executor of a Massachusetts resident decedent previously has reported out-of-state real and tangible personal property, this could result in more Massachusetts estate tax being reported than under current practice (because that average rate is lower than the highest otherwise-applicable marginal rate), or less if the executor has been reporting in accordance with the current statute notwithstanding the Dassori argument.

If adopted, the proposal may be subject to challenge.  However, the proposal appears to be on at least more solid constitutional footing than the current statute.  See generally Jerome R. Hellerstein et al., State Taxation ¶ 21.10 (3d ed. 2001 with updates through January 2022, online version accessed on Checkpoint).

[i] Another lesser-known quirk would also be eliminated:  The exemption would no longer be reduced by lifetime taxable gifts.

[ii] This mirrors how Massachusetts taxes nonresident decedents on their in-state real and tangible personal property.