Three States That Will Not Follow

Why these three

A large share of high earners with equity compensation live in California, Illinois, or New Jersey. All three impose meaningful rates. And all three, by different mechanisms, interfere with the move at the center of most federal planning: generating a deduction in a high year and applying it against ordinary income.

The important point is that the three obstacles are not variations on one another. They are three genuinely different problems, they call for three different responses, and the most severe of them is the one least often discussed.

California: refusal

California sets its conformity by a fixed date and updates it by legislation. That date was moved forward to January 1, 2025. The federal legislation was signed on July 4, 2025, six months later, so the update does not reach it.

That gap will presumably close eventually. The more durable problem will not. California has never conformed to federal bonus depreciation under section 168(k), through any Act, and immediate expensing under section 179 is capped far below the federal figure. This is a standing position rather than a lag.

Two further points compound it for exactly our client profile. California does not follow section 1202 at all, its own exclusion having been repealed in 2013. And it applies no preferential rate to capital gains, taxing them as ordinary income up to 13.3 percent.

Illinois: surgical removal

Illinois looks more accommodating on paper. It uses rolling conformity, so federal changes generally flow through automatically without waiting for the legislature.

It then removes the specific provisions it does not want. Bonus depreciation under section 168(k) has long been subject to an addback, with a subtraction taken instead across the property's class life. The deduction is not denied so much as slowed to the ordinary schedule.

What is worth noticing is the pattern rather than the provision. In late 2025 Illinois legislated to extend the same addback treatment to the new federal provision at section 168(n), for tax years from 2026 onward. Congress opened a door and Illinois closed it within months.

Illinois is also easy to under-model in a second way. The flat individual rate is modest by comparison with the other two, which leads people to treat the state layer as immaterial. The separate replacement tax imposed at entity level on partnerships and corporations is a real additional cost and is frequently left out of the arithmetic entirely.

New Jersey: a wall, not a delay

New Jersey is the most severe of the three and the least understood, because its Gross Income Tax is not built the way almost every other state income tax is built.

Most states begin with federal taxable income or federal adjusted gross income and adjust from there. New Jersey does not. It defines its own statutory categories of income and taxes them largely separately.

The consequence is structural. A loss arising in one category generally cannot be applied against income in a different category. A business loss does not offset wages. And losses are generally not carried back or carried forward in the way a federal net operating loss is.

There is relief, and it is narrower than it first appears. The Alternative Business Calculation Adjustment permits limited netting among business-related categories, and a resulting net business loss can be carried forward for up to twenty years. But it operates against business income. It does not open a route from a business loss to wage income.

New Jersey also applies no preferential rate to capital gains, taxing them as ordinary income up to 10.75 percent.

What follows for planning

The three mechanisms call for three different responses, which is the practical reason this article exists.

1. 01In California, weight the analysis toward credit-bearing positions. A federal credit reduces federal tax after the income computation, so it is unaffected by a state that will not follow the deduction. Where California operates credit programs of its own, those are the only instruments that reach a 13.3 percent liability directly.
2. 02In Illinois, model the deduction as deferred rather than denied, price the delay honestly at the flat rate, and include the entity-level replacement tax that most illustrations omit. Then assume the legislature may act again, and avoid structures that depend on a newly enacted federal provision surviving several more years of state conformity.
3. 03In New Jersey, establish the character of the client's income before anything is designed. Where income is predominantly wages, a loss-generating position should be evaluated on its federal benefit alone, with the state benefit treated as zero rather than as deferred. Where the client has genuine business income, the alternative calculation becomes relevant and the analysis changes materially.
4. 04In all three, ask for the state figure separately. A blended federal-and-state rate in an illustration conceals precisely these effects, and it is a reliable signal that nobody ran the state analysis.

Two clients with identical incomes and identical appetites should not be shown the same structure if one is in Texas and the other in Newark. The federal analysis is the same for both. Very little else is.