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The Hawaii Estate Tax

In this year’s legislative session, there are bills advancing that would, if enacted, fundamentally change how Hawaii’s estate tax works.  Those bills include House Bills 2652 and 2653, and Senate Bill 3289.

What is an estate tax?  It’s a tax that is imposed when an individual dies.  It is imposed on the net value of the individual’s estate, meaning all of the wealth he or she owned at death, less certain deductions and credits.  The federal government has had an estate tax since 1916.  Beginning in 1924, the federal code allowed a credit for estate taxes paid to states.  The estate would pay the same amount whether or not the state in which the decedent died imposed an estate tax, so by the end of the 20th century all 50 states and the District of Columbia had enacted an estate tax.  In 2001, however, the federal code was changed; the credit was no longer allowed.  Many states eliminated their estate tax; we didn’t and now we are one of 12 states that still impose an estate tax.  (Four states impose an inheritance tax, which is also triggered by a death but works differently, and one state has both an estate and inheritance tax.)

Our estate tax has no effect on people having less than $5 million in assets at death, meaning most people.  We have an exemption amount of $5.49 million, which is what the federal estate tax exempted back in 2017 before the Tax Cuts and Jobs Act doubled it.  When an individual’s taxable estate exceeds the exemption amount, our estate tax kicks in at a 10% rate and gradually rises to a maximum of 20% for estates that are at least $10 million over the exemption amount.  Our estate tax rate is tied with the State of Washington’s for the highest in the nation.

Proponents of the estate tax say that it’s an essential tool for making sure that the wealthy pay their fair share in taxes.  Another objective of the tax is the social policy goal of deconcentrating wealth, namely putting it in the hands of more people.  Against this, the national Tax Foundation observed that:

very often, most of the wealth held in large estates is the life work of successful entrepreneurs and farmers, what might safely be termed “first generation wealth.” These estates pay the highest tax rates and most tax per estate.  Because many of the largest estates primarily comprise first generation wealth, and these estates pay the highest estate tax rates, it appears that it is here that the transfer tax system has its most deleterious effect on the economy by falling most heavily on the estates of successful entrepreneurs, some of the nation’s most economically productive citizens.

This observation raises the question of whether the estate tax, as applied to family-owned businesses especially, is doing more harm than good.  The testifiers supporting or commenting on the estate tax bills, a virtual Who’s Who of family-owned businesses here (including L&L Hawaiian Barbecue; Foodland Supermarket, Ltd.; Servco Pacific Inc.; Island Insurance; Loyalty Enterprises, Ltd.; Big Island Motors; Big Island Toyota; De Luz Chevrolet; Finance Enterprises, Ltd; Tradewind Group Foundation; FCH Enterprises, Inc.  [Zippy’s]; ALTRES, Inc.; KTA Super Stores; and Business Strategies) seem to think so.  One of the estate tax bills (HB 2652 / SB 3289) would allow wealth to pass tax-free between family members; that would basically wipe out the estate tax.  The second bill (HB 2653) would allow interests in family-owned businesses to pass tax-free.  It is interesting because it is loosely based on section 6166 of the Internal Revenue Code, which we haven’t incorporated into our law, allowing relief to certain family-owned businesses.  The federal law doesn’t exempt those businesses from the tax but allows the tax to be spread out across up to 14 years, with interest at no more than 2%, allowing the business to pay off the tax over time.  Without relief, such businesses probably would have to be sold off to generate the cash necessary to pay the tax.  Hawaii law currently gives similar deferral relief to such businesses.  Deferral like the federal government does might not be appropriate for us here; maybe it is quicker and easier for the state to leave such businesses alone, as the bill proposes.

[CORRECTION 4/20/2024:  A previous version of this article asserted that Hawaii law did not even give deferral relief to such businesses.  That is not correct.  Such relief is given in HRS section 236E-9(e).]

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