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June 14, 2013 at 6:09 AM

Explaining the ‘Bracken fix’ of the Washington estate tax

The Associated Press reports that the deadline is Friday for the Legislature to “fix” the estate tax. That’s a one-time levy on the estates of dead people. If a fix isn’t passed, the state must send out $13 million of tax refunds to executors, the first of an estimated $160 million in revenue losses over the next two years.

Lost revenue is how the state sees it. The heirs to these estates see the case as a retroactive tax that is fundamentally unfair.

I will try to explain what is informally called the “Bracken fix.” The story of it goes back to the 1980s, when the federal estate tax allowed a 100 percent credit for a certain amount of state estate tax. In other words, Congress had set up the estate tax so that state governments could share in the money from it.

In 1984 Jim Bracken died. His share of the marital estate was worth more than $4 million. His estate would have had to pay a bunch of federal and state tax on that, but there was created a trust called a QTIP. (Don’t stick this in your ear!) Under a QTIP (Qualified Terminable Interest Property) trust, the tax on Jim Bracken’s estate, and its distribution to his heirs, was delayed until the death of his wife, Sharon, so she could receive the income from it.

Sharon Bracken died in 2006. By then, the federal tax had changed. It no longer shared revenue with the states. And in 2005 Washington had passed a separate estate tax.

Her estate paid federal and state estate taxes on her assets. The QTIP for Jim’s assets dissolved, and the federal tax was paid on that. The question was: Did the estate of Jim Bracken owe estate tax to Washington under the law passed in 2005?

The state said yes. Bracken’s executor said no. The case went all the way to the Washington Supreme Court. Representing the Bracken estate was Tukwila attorney Phil Talmadge, who was once a justice of the court himself. You can watch him argue here.

The gist of his argument, as I understand it, is that for an estate tax the taxable event is the transfer of assets from Jim Bracken to Jim Bracken’s estate, which happened when Jim Bracken died. That was in 1984. The federal government agreed not to collect the tax on Jim’s estate until Sharon died, which was in 2006. But the taxable event on Jim’s estate had occurred 22 years earlier. The payout of Jim’s assets to his heirs in 2006 was a distribution, not a transfer. An estate tax has to be levied on the transfer to an estate. And a tax passed in 2005 could not reach back to a transfer in 1984.

The state’s attorney, Charles Zalesky, argued that “Congress and the Legislature are not constrained by property law concepts on when a transfer occurs.” Zalesky argued that the transfer occurred when Sharon died, and the state could tax it.

The justices ruled, 9-0, for the estate of Bracken. Six justices agreed that an estate tax is a tax on the transfer of property at death, and that in 2006 there was no transfer of Jim Bracken’s property for the state to tax. Three justices argued that there was such a transfer but that it wasn’t taxable.

Now the Legislature proposes to undo this decision. Whether its attempt at retroactive law will hold up in court is a question for another day.

Comments | Topics: estate tax

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