What Is the Pick-Up Tax?
The term pick-up tax refers to an estate tax that was levied by individual states, allowing them to share in the proceeds and revenue from federal estate taxes. Although states were able to claim a portion of an individual's federal estate transfer tax, the pick-up tax did not increase the estate's tax liability. The pick-up tax was phased out with the passage of the Economic Growth Tax Relief Reconciliation Act (EGTRRA) of 2001 and completely ended in 2005. Some states replaced the pick-up tax with their own new estate taxes.
Understanding the Pick-Up Tax
Individuals have the right to transfer their personal property to their heirs after they die. This may include cash, real estate, trusts, business assets, securities, and other investments. But there is a price that a person's heirs have to pay. The federal government collects a tax on these assets after determining their fair market value (FMV). The taxable amount is calculated after taking certain deductions and reductions in consideration.
The pick-up tax was also known as a sponge tax. That's because it was seen as sponging off the taxes collected by the federal government. It did not assess an additional liability for an estate to pay. Instead, it represented a sharing arrangement between states and the federal government for the estate taxes collected at the federal level by the Internal Revenue Service (IRS). It was a convenient way for states to share in federal estate taxes without having to create their own guidelines and jump through legislative hoops.
The costs of collecting estate taxes are disproportionately high given there are not that many people with estates meeting the minimum threshold. There is a good deal of auditing and paperwork involved with settling estates, so the pick-up tax left that burden with the federal government while allowing states to share in the proceeds. As noted above, the pick-up or sponge tax was phased out in 2001 and was eliminated four years later.
A number of different states enacted new laws allowing them to continue collecting estate taxes after 2001. As of 2020, 12 states and the District of Columbia collect estate taxes. Their exclusion amounts range from $1 million to $5.74 million. Some states collect inheritance taxes, which differ from estate taxes in that the individuals receiving the proceeds of an estate, and not the estate itself, are responsible for paying the state taxes when they file.
- A pick-up tax was an estate tax levied by individual states, allowing them to share in the revenue from federal estate taxes.
- The pick-up tax was phased out in 2001 and eliminated in 2005.
- This tax didn't increase the tax liability of an estate but gave states a portion of the federal government's estate tax.
- After the pick-up tax was repealed, a number of states adopted their own estate tax laws—12 states and D.C. collect these taxes as of 2020.
Federal estate taxes have been around since 1916 and have seen many changes over the years. In fact, the passing of the Tax Cuts and Jobs Act (TCJA) of 2017 brought about more changes to this tax. Effective January 2018, the estate tax threshold doubled to $11.18 million for an individual filer or $22.36 million for married couples filing joint returns. That limit increased to $11.58 million for individuals in 2020, meaning an estate with a value less than this amount is not required to pay any estate tax.
The Tax Cuts and Jobs Act of 2017 increased the threshold, meaning fewer people were responsible for paying an estate tax.
Given the adverse impact on the size of the debt in the United States, which exceeded $22.7 trillion in August 2020, these new estate tax exemptions are up for reconsideration or revision to the previous levels in 2026. These new higher thresholds mean there will be less estate tax money collected, and fewer people needing to file. If the federal government eventually completely phases out the federal estate tax, this will leave those states still collecting the tax with some difficult decisions.
The administrative costs for auditing and collecting estate taxes on the state level from fewer people may not be worth the potential revenues. States have relied upon the federal government for the bulk of the estate tax administrative costs, as seen with the concept of the pick-up tax. Estate taxes currently provide less than 1% of all state revenues, so many states may decide to eliminate their estate taxes as well.