February 6, 2023
On November 8, 2022, Massachusetts voters approved an amendment to the Massachusetts Constitution that implements a surtax of 4% on an individual’s annual taxable income to the extent it exceeds $1 million starting January 2023. This surtax will affect high-income taxpayers annually and may affect some taxpayers on a one-time basis as a result of certain events, such as upon the sale of an expensive home or sale of a business. For our initial thoughts on the Massachusetts Millionaires Tax (“MMT”), click here.
Now that 2023 is here, it is a good time to review and consider implementing some tax planning strategies to mitigate or avoid the MMT for 2023 and beyond. These strategies should be considered for both individuals and trusts depending on the specific facts of each situation. Most of these strategies involve spreading the income over several years, dividing assets and their income within the family to alleviate the tax impact on the main income recipient or changing the tax jurisdiction.
1. Consider an Installment Sale
For those selling a business or other asset with significant appreciation, an installment sale could spread the gain over multiple years, reducing the effect of the MMT or possibly eliminating it altogether.
2. Make a Gift Before Selling
Making a gift of property (or part of the property) before a sale can transfer some or all of the capital gain from the sale from the owner to the gift recipient. Preferably done well in advance of the sale, the gift can be made to family members or to irrevocable trusts that are treated as separate taxable entities (also known as "non-grantor" trusts). Non-grantor trusts file their own tax returns and pay taxes on undistributed income and capital gains, and can be for the benefit of children and other beneficiaries, who pay the income taxes on trust distributions they receive.
Non-grantor trusts formed in other jurisdictions (such as New Hampshire) without income tax require a non-Massachusetts trustee;however, Massachusetts-sourced income would still be subject to the Massachusetts income tax.
3. Trust Planning With Existing Trusts
Many people are beneficiaries of trusts, create their own trusts and sometimes are in both categories.
With regard to income tax, there are two types of trusts, non-grantor trusts (noted above) and grantor trusts. Grantor trusts can be revocable or irrevocable trusts over which the trust creator kept some power or control, causing the trust’s income to be taxed directly to the creator on her or his individual income tax return. The creator is subject to the Massachusetts income tax on all trust income, even if it is not Massachusetts-sourced.
For irrevocable grantor trusts, it is possible to terminate the grantor trust status and utilize the option set forth in section 2 above for non-grantor trusts. It is also possible to divide the grantor trust into multiple trusts with different beneficiaries prior to ending grant or trust status, thereby spreading the income among multiple non-grantor trusts.
4. File Separate Massachusetts Income Tax Returns
Married spouses filing separately will each be able to shelter the first $1 million of their individual income from the additional tax. For example, if one spouse earns income over $1 million and the other does not, it might make sense to consider shifting investment assets into the name of the lower-earning spouse. If that shift results in tax savings for Massachusetts tax purposes, but not for federal purposes, the couple could also consider filing separately for Massachusetts purposes and filing jointly for federal purposes.We recommend consulting with your accountant regarding whether this strategy would be appropriate for your situation.
5. Leave Massachusetts
Massachusetts taxes the worldwide income of those who either reside in the Commonwealth, or are domiciled in it. In contrast,Massachusetts taxes income of non-residents and non-domiciliaries only to the extent the income derives from a Massachusetts source, such as income from real property located in Massachusetts and flow-through subchapter S income or partnership/LLC income from a Massachusetts business.
Moving to another state with low or no income tax such as New Hampshire or Florida can eliminate the Massachusetts tax on non-Massachusetts source income, but not the tax on Massachusetts-source income. For many, this is an extreme step that is not practical. It may be an option for those individuals not employed in Massachusetts, retirees and those who already spend considerable time in one or more other states.
6. Massachusetts Tax-Advantaged Financial Products
Investing in assets such as Massachusetts tax-exempt bonds would exclude that income from your Massachusetts taxable income.Consult with your investment advisor to determine if this option makes sense for your particular circumstance.
As with many things in tax and estate planning, there is no "magic bullet," and these options are tools to aid you in reducing the impact of the MMT within your overall situation. If you have any questions regarding the Massachusetts Millionaires Tax, please contact Bill Morgan, Trusts & Estates Counsel, at 617-457-4061 or wmorgan@murthalaw.com.
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