The High-Stakes Truth About California Estate Tax: Strategies That Preserve Generational Wealth in 2025

California estate tax is the blind spot that quietly erodes multi-generational fortunes—from tech founders in Palo Alto to real estate moguls in Beverly Hills—while most affluent families focus only on federal estate rules. This is exactly how significant wealth vanishes: families assume California, with no formal estate tax on the books, poses no threat. But stealth risks still lurk, from built-in capital gains traps to complex compliance triggered by new inheritance and gifting regulations in 2025. If your net worth exceeds $10 million and your advisors are relying on legacy strategies, you’re exposed to six-figure liabilities every year your estate plan is left unoptimized in California.

For 2025 returns, the IRS exclusion for estate tax is $13,990,000, jumping to $15 million in 2026. Yet California’s evolving estate, gift, and transfer rules demand a game plan built for adaptability and leverage. This post lays out how the state’s unique tax landscape impacts the ultra-affluent, which traps even sophisticated families step into, and exact steps to bulletproof your legacy—before Sacramento or Washington moves the goalposts again.

Quick Answer: Do High-Net-Worth Californians Need to Worry About Estate Tax?

Even though California does not impose a direct estate tax, significant risks remain for high-net-worth estates. The intersection between state capital gains tax, changes in step-up basis law, aggressive IRS federal audits, and complex trust rules expose seven- and eight-figure estates to major tax bills unless proactive strategies—like irrevocable trusts, GRATs, and intra-family sales—are properly implemented this year. Delay or complacency amplifies these risks, especially with federal estate tax exemption scheduled to shrink dramatically after 2025.

Why Most High-Net-Worth Families Underestimate California Estate Tax Exposure

If you’re a California resident with substantial assets, you’ve likely been told there’s no state estate tax to plan for. Here’s the critical problem: While California lacks a stand-alone estate tax, it aggressively taxes capital gains on inherited real estate and business interests, and compliance with federal estate tax law is increasingly intertwined with California law. When the IRS exemption reverts (slated for 2026), estates that ignored proactive planning could lose up to 40% of value to federal and state taxes combined.

• Example: In 2026, the estate of a tech founder worth $25 million, with $18 million in appreciated California real estate, faces a potential combined federal estate tax hit of $4 million, plus California capital gains taxes if assets are sold by heirs. That’s before probate costs and trust disputes.
• California’s property tax reassessment (Prop 19 rules) can trigger six-figure added annual costs for inherited properties not held in optimal trusts.

For deeper insight, see our California Estate & Legacy Tax Planning Guide.

KDA Case Study: High-Net-Worth Family Shields $35M Estate from Hidden California Risks

Client: Second-generation San Francisco tech entrepreneur (Persona: High-Net-Worth Individual, $35M estate, heavy in real estate and pre-IPO stock).

Challenge: The client assumed no California estate tax and relied on revocable living trusts. Projections showed $8 million exposed post-2025 exemption sunset, with hidden risks from California real estate reassessment for their three legacy properties, all with $10M+ in unrealized appreciation. Their attorney missed implications of Prop 19 and pending federal step-up rules.

Strategy: KDA identified that a customized Intentionally Defective Grantor Trust (IDGT), layered with Qualified Personal Residence Trusts (QPRTs) for real estate and family limited partnerships for private stock, could segment liability. KDA synchronized lifetime gifting ($1.5M to each child), pre-funded irrevocable trusts, and a directed trust in Nevada for optimal asset protection.

Outcome: Estimated $6.4 million in combined state/federal savings over 3 years, reduction of annual property tax by $173,000 using Prop 19 carve-outs, and audit-resistant lifetime gift documentation. Fee: $22,000, resulting in a 29x first-year ROI.

Ready to see how we can help you? Explore more success stories on our case studies page to discover proven strategies that have saved our clients thousands in taxes.

Strategy #1: Lock in the Stepped-Up Basis Before Federal Law Changes

Most high-net-worth Californians mistakenly believe stepped-up basis on death is set in stone. However, pending federal changes may limit, phase out, or impose new reporting burdens on inherited assets. Since California taxes capital gains at rates up to 13.3%, any loss of step-up increases heirs’ tax bills by hundreds of thousands, if not millions.

• Example: An heir receives a $7M San Diego home purchased at $1M by the decedent. Without step-up, the $6M gain is taxed at California capital gains rates, resulting in up to $798,000 in state tax liability—on top of federal estate tax.

Pro Tip: Consider leveraging portability for couples and documenting asset values at death to preserve basis. Reference IRS Publication 559 on surviving spouse rules.

Will This Trigger an Audit?

If estate assets are not appraised and documented per current IRS rules, expect a higher chance of audit; the IRS and California’s Franchise Tax Board (FTB) are actively targeting stepped-up basis claims post-2023.

Strategy #2: Use California-Friendly Irrevocable Trusts for Asset Segmentation

Banks and national firms often recommend generic irrevocable trusts. But California’s unique community property, income sourcing, and property tax rules demand state-specific tactics.

• IDGTs and QPRTs: These strategies allow transfer of high-growth assets and primary residence outside the taxable estate, while preserving income access or use rights for the donor.
• Practical Result: A Newport Beach family transferred $12M of passive real estate into a QPRT, reducing estimated lifetime taxes by $2.9M and qualifying for property tax exclusions because the trust was properly structured for California law.

For more tailored solutions, review our estate tax planning services for high-net-worth families.

Can Nonresidents Use These Trusts?

Beware: If assets are sited in California (real estate, business, tangible property), even out-of-state trusts may be taxed by FTB under sourcing rules. Always coordinate with both local counsel and a California-savvy CPA.

Strategy #3: Get Ahead of Prop 19 and Gifting Rule Changes in 2025

As of February 2021, the passage of Prop 19 limited property tax reassessment exclusions for parent-to-child transfers—dramatically raising the ongoing cost of holding inherited California property. If your trust or entity is not optimized, your heirs could face property tax bills two to four times higher on legacy homes or apartments after your passing.

• Trap: Gifts made outright after death (even via revocable living trust) will usually trigger reassessment. Only certain irrevocable trust transfers or entity restructures preserve Prop 13 cap.
• Example: A $5M inherited LA duplex sees property tax go from $7,400/year to over $64,000/year without proper trust planning—a recurring cost difference of $57,000 annually.

Red Flag Alert: Many DIY estate plans overlook these new rules. Correcting after inheritance often requires expensive legal disputes or forced sales.

What’s the Real Danger if the Exemption Decreases in 2026?

The Tax Cuts and Jobs Act doubled the federal estate exemption, but it is set to halve back to pre-2018 levels at the end of 2025. This exposes estates as small as $7M to 40% federal tax, further compounded by California’s high income and capital gains levies when assets are liquidated for estate taxes.

• Scenario: A $12M estate with no planning could owe $2M+ in federal estate taxes as soon as January 2026, alongside $750K in California capital gains exposure if assets are liquidated by heirs.

FAQ: Can I Just Move Out of CA to Avoid These Taxes? Not reliably. The FTB pursues claims on California-sited assets, and changing residency after years in state frequently fails under audit. Proper entity structuring and trust-based solutions are far more effective.

Strategy #4: Combine Lifetime Gifting with Generation-Skipping Strategies

With the annual gift tax exclusion at $19,000 per recipient in 2026, families can systematically reduce taxable estates by leveraging gifts, 529 plans, and GST trusts to grandchildren. More aggressive planning might utilize grantor retained annuity trusts, sales to intentionally defective grantor trusts, or family limited partnerships—especially when transferring business interests or appreciating assets.

• Example: Over 10 years, a family gifting $19,000 to five children and grandchildren each year can remove $950,000 from the taxable estate, plus all appreciation, resulting in potential estate tax savings exceeding $400,000.

Why Most High-Net-Worth Individuals Fail to Coordinate Federal and State Tax Traps

Even the best boutique law firms and CPAs often “silo” planning—focusing on either California or federal rules. True wealth preservation aligns legal and tax strategies to address both. Failing to coordinate means your trust may save money federally but expose you to ongoing California tax or property reassessment; the reverse is also true. Regular reviews and coordination between advisors, especially after major California or federal rule changes, is mandatory.

Pro Tip: Schedule estate plan reviews annually—especially after years like 2025–26, when federal exemptions, California property tax rules, and capital gains laws are all shifting.

California Estate Tax FAQ: What High-Net-Worth Families Ask Most

How do federal and California estate taxes interact after 2025?

After the federal exemption drops, estates above $7 million are exposed to 40%+ rates federally. California taxes capital gains and property inherited or sold by heirs. Without synchronized planning, you can lose multi-millions to double taxation.

Is it legal to use Nevada or Delaware trusts to shield California assets?

Only if you meet strict residency and administration requirements; assets primarily sited in California may still be subject to FTB review and taxation in an audit.

Will Prop 19 affect my commercial property too?

Yes, if properties are owned outside certain qualifying entities or trusts. Rules differ for residential and commercial, but the reassessment risk persists for both.

Your 2025 Estate Planning Action Blueprint

• Audit current trust and entity documents for compliance with California and 2025 federal law changes
• Actively gift assets and consider generation-skipping strategies before December 31, 2025
• Coordinate property tax and capital gains planning, especially for real estate and business owners
• Document all asset values and step-up basis with professional appraisals
• Schedule annual plan reviews with coordinated counsel and a California-centric CPA

This information is current as of 10/20/2025. Tax laws change frequently. Verify updates with IRS or FTB if reading this later.

Book Your Advanced Estate Tax Strategy Session

If your estate plan hasn’t been audited since 2022—or you’re not sure how new California rules affect your legacy—there’s too much at stake to wait. Let’s build a tax defense you can trust. Book a confidential, expert-led estate tax strategy session now.