The IRS addressed a special issue impacting the estate tax deduction under IRC §2058 for amounts paid for state estate, inheritance, legacy or succession taxes under Connecticut’s estate tax.  In Program Manager Technical Advice 2019-03 the IRS looks at the issue of whether the estate tax paid to the state of Connecticut has to be reduced proportionately to account for Connecticut gift taxes paid within three years of death that are included in the Connecticut taxable estate.

IRC §2058(a) provides:

(a) Allowance of deduction

For purposes of the tax imposed by section 2001, the value of the taxable estate shall be determined by deducting from the value of the gross estate the amount of any estate, inheritance, legacy, or succession taxes actually paid to any State or the District of Columbia, in respect of any property included in the gross estate (not including any such taxes paid with respect to the estate of a person other than the decedent).

The state of Connecticut, like the federal government, imposes both gift and estate taxes.  Like the federal transfer tax regime, when the estate tax is computed for a Connecticut decedent those lifetime gifts and the taxes paid are taken into account when computing the Connecticut estate tax to assure that the marginal tax rate paid is based on lifetime transfers.

Connecticut also requires decedents to add back any state gift taxes within three years of the date of death to insure that those “close to date of death” state gift taxes do not escape the state’s estate tax—that is, the donor has to live for three years to escape transfer taxes on the funds used to pay for the tax on such lifetime transfers.

The party to whom the advice was addressed posed three questions which the author answered as follows:

(1) Are post-2004 Connecticut gifts included in the Connecticut estate tax base? No, post-2004 Connecticut gifts are not included in the Connecticut estate tax base; rather, they are included in the computation of the Connecticut estate tax to insure that the Connecticut taxable estate is taxed at the highest applicable marginal rate.

(2) In the case of Connecticut decedents dying after 2014, is the Connecticut gift tax paid on gifts made within three years of death included in the Connecticut estate tax base? Yes, for deaths after 2014, the Connecticut estate tax base includes Connecticut gift taxes paid on gifts made within three years of death.

(3) Should the deduction under I.R.C. § 2058(a) be reduced by the Connecticut estate tax attributable to the Connecticut gift taxes paid on gifts made within three years of death? Yes, the Connecticut gift tax paid on gifts made within three years of death is not includible in the federal gross estate. The deduction for the Connecticut estate tax must be reduced by the amount of the Connecticut estate tax attributable to the Connecticut gift tax paid on gifts made within three years of death.

The analysis justifies the adjustment for the amount of Connecticut estate tax paid attributable to adding back the gift taxes paid within three years of death as follows:

Connecticut gift taxes paid on gifts made within three years of death are not includible in the federal gross estate. See § 2035(b), including in the gross estate only the gift tax paid under Chapter 12 (the Federal gift tax) on gifts made within three years of death. As noted above, IRC § 2058 allows a deduction only for the state death taxes paid with respect to property included in the federal gross estate. Accordingly, in the case of decedents dying after 2014 who made taxable gifts within three years of death, the deduction for the Connecticut estate tax must be reduced by the amount of the Connecticut estate tax attributable to the Connecticut gift tax paid on those gifts.