The battle over California’s proposed “Billionaire Tax Act” is heating up, prompting wealth advisors to begin preparing mitigation strategies for “ultra-ultra”-high net worth clients.

Under the proposed ballot measure, state residents with a net worth over $1 billion would be required to pay a 5 per cent tax on their total wealth, not just income, over a five-year period.

The healthcare union that’s backing the plan needs to collect 875,000 valid signatures by 17 April to place the tax initiative on the 3 November ballot. Bernie Sanders, the firebrand independent senator from Vermont and a democratic socialist, kicked off the pro-wealth tax campaign last week at a packed rally in Los Angeles where the crowd chanted “tax the rich.”

Calling out well-known billionaires including Elon Musk, Mark Zuckerberg, Larry Ellison and Sergey Brin, Sanders said “We’ve got some bad news for them. Starting right here in California, these billionaires are going to learn that we are still living in a democratic society where the people have some power.”

Opposition
But the wealth tax proposal faces intense – and well-financed – opposition. As expected, the venerable California Business Roundtable is attacking the initiative, aided by a $3 million donation from conservative businessman Peter Thiel.

Other opposition groups are also forming, including Golden State Promise, funded in part by cryptocurrency executive Chris Larsen, as well as efforts financed by Silicon Valley investors such as Ron Conway and Daniel Tierney. Google co-founder Sergey Brin contributed $20 million to Building a Better California, a political action committee backed by other tech titans which is supporting three ballot measures designed to undercut the wealth tax.

What’s more, California governor Gavin Newsom, a liberal Democrat eyeing a presidential bid, is actively hostile towards the wealth tax initiative. And tellingly, no elected California politician showed up for the Sanders-led “Tax the Billionaires” rally in Los Angeles.

(Editor's note: As the home of Silicon Valley and other industries that can drive immense wealth, California – often a bellwether of certain political trends – has already wrestled with how to raise revenue on wealthier citizens. For example, legislators in Sacramento have sought to crack down on the use of trusts in other US states as a way of stemming revenue outflow.)

Strategies
Nonetheless, California wealth managers, lawyers and accountants are taking no chances. A conference organised by the (STEP) of Orange County, for example, recently drew several hundred wealth advisors to discuss a variety of mitigation strategies.

Addressing the conference, first reported in the New York Times, Andrew Katzenstein, a partner with the Holthouse Carlin Van Trigt accounting firm, jokingly said a wealthy couple worth slightly more than $1 billion could avoid the wealth tax by getting divorced since, if they split up, they would have to divide their assets.

In a more serious vein, Katzenstein, who is also an attorney, described other mitigation strategies in an interview with Family Wealth Report. When planning for the wealth tax, individuals shouldn’t take steps that wouldn’t make sense otherwise in case the tax doesn’t become law, he said. 

“For example, real property owned directly by a person is excluded from the net worth calculation under the proposed Billionaire’s Tax Act, so no tax is due on that home,” Katzenstein said. “However, the assets of a grantor trust are part of the grantor’s net worth calculation under the BTA and are subject to the tax if it’s in the grantor trust on 31 December 2026.” 

If the individual buys the house out of the grantor trust for cash, he will now own the home directly and it won’t be part of the net worth calculation under the wealth tax, Katzenstein said. “Because the person owns the house at death,” he added, “their heirs can inherit the house with a 'stepped-up’ basis so that when they sell it, they won’t pay capital gains tax.”

California residents who oppose the Billionaire Tax Act can also become directly involved in the political process by donating money to groups  sponsoring competing ballot measures, noted attorney Christopher Karachale, partner at the Hanson Bridgett law firm in San Francisco.

Personal property exemptions
Those taxpayers who believe that the wealth tax will become law can buy other homes or properties in or out of state to reduce their taxable wealth, since the tax wouldn’t apply to personal real estate. Artworks are another form of personal property that wouldn’t be subject to the tax. Wealthy clients may consider moving valuable art work to homes in other states by 3 April, Katzenstein said, because personal property won’t count towards net worth if it is outside California for at least 270 days this year.

Reducing insurance valuation on items such as fine jewellery because under the wealth tax assets cannot be valued for less than they are insured is another mitigation strategy. “You’re also saving on insurance premiums,” Katzenstein said. “It’s another example of something clients should be doing anyway.”

“Don’t let the tax tail wag the dog”
Any actions taken in anticipation of a potential wealth tax should keep a broader perspective in mind, agreed Jim Bertles, co-head of US wealth planning at ultimately destabilise our tax revenue even further,” Rob Lapsley, president of the California Business Roundtable told the Times.

Opponents are expected to spend around $75 million to fight the wealth tax initiative, including ads featuring Governor Newsom and other Democratic officials such as San Francisco Mayor Daniel Lurie. Competing  tax-related proposals on the ballot may confuse voters. Wealth tax sponsor Service Employees union hasn’t had support from many other major politically influential unions in the state. And even if the wealth tax measure passes, it’s expected to immediately face a number of legal challenges. 

More to come
Nonetheless, the wealth tax concept, fuelled by concerns over lagging tax revenue and income inequality, is unlikely to fade away. The mood was perhaps best captured in the recent headline “Billionaires’ Low Taxes Are Becoming a Problem for the Economy” from a quite unexpected source – The Wall Street Journal.

Aided by a group called Patriotic Millionaires, a number of states are considering raising taxes on their wealthiest residents, including Pennsylvania, which has its own “Tax Billionaires, Fund PA” plan, Virginia, which is debating creating new top tax brackets and Illinois, where a proposed constitutional amendment would impose a 3 per cent tax on income over $1 million.

Even for clients who are not impacted by a wealth tax at present, the California proposal “is a case study for how future wealth taxes may be posed and what exclusions and planning opportunities exist,” said Wilmington Trust’s Christenson.

Residency, liquidity and legal implications were addressed in a January story on the California Billionaire Tax Act.

To comment on this or other content on FWR, please contact he editor at tom.burroughes@wealthbriefing.com.