When you are in possession of a considerable store of wealth, you are in a position to make things easier for your loved ones after your passing. However, there is a major challenge that looms for high net worth individuals.
There is a federal estate tax in the United States that can come into play when large asset transfers are taking place. If the amount of your estate exceeds the amount of the federal estate tax exclusion, the estate tax looms large for you and your family.
During the 2016 calendar year, the federal estate tax exclusion is $5.45 million. This is the amount that you can transfer free of the estate tax. The maximum rate of the federal estate tax is 40 percent.
Estate Taxes and the Marital Deduction
The estate tax is not applicable on asset transfers between spouses. There is an estate tax marital deduction, and you can use this deduction to leave unlimited property to your spouse tax-free.
You would be using a portion of your exclusion to leave tax-free bequest to others.
However, to utilize the estate tax marital deduction, your spouse must be a citizen of the United States.
Why would the utilization of the exclusion be limited to American citizens?
The powers-that-be are not losing anything by allowing an unlimited marital estate tax deduction. If you were to leave a large estate to your spouse tax-free, what would happen next? Your spouse would then be in possession of an estate that would be subject to the estate tax after his or her passing.
Nothing would really change with regard to taxation. The same assets would be subject to the death tax upon the passing of your surviving spouse.
On the other hand, imagine the scenario that would exist if the unlimited marital deduction were afforded to non-citizen spouses. After the death of the American spouse, the surviving spouse could return to his or her country of citizenship. After the death of the survivor, the American IRS would be left out in the cold.
Federal Gift Tax
The estate tax was first enacted in 1916, and when it first appeared, people who were still alive would give assets to their loved ones to avoid the estate tax. The tax man did not like this arrangement so a gift tax was enacted in 1924. It was repealed in 1926, but it came back in 1932, and it has been around ever since.
The gift tax and the estate tax are unified under the tax code. The $5.45 million exclusion applies to taxable gifts along with the value of your estate, and large gifts are taxed at the same 40 percent maximum rate.
Because of the unification of the gift tax and the estate tax, the unlimited marital deduction also applies to lifetime gift giving. You can transfer unlimited assets to your spouse while you are living free of the gift tax.
Portability of Exclusion
While we are on the subject of transfer taxes as they apply to married couples, we should touch upon the portability of the unified federal transfer tax exclusion.
Each individual taxpayer has a $5.45 million exclusion. If you are married and you predecease your spouse, your surviving spouse could use your exclusion along with his or her own exclusion. This is called portability in legal lingo.
Prior to the enactment of a legislative measure at the end of 2010, the estate tax exclusion was not “portable” between spouses. In 2012, portability was made permanent so this is a relatively recent development.
We should point out the fact that portability is not automatically bestowed by the IRS. A representative of the estate in question must file Internal Revenue Service form 706 within nine months of the passing of the decedent to opt for portability.
While portability is useful, it may not be the best solution in some cases, particularly where there are appreciating assets or remarriage concerns.
Schedule a Consultation
There are multiple different wealth preservation strategies that can be implemented if estate taxes are going to be an issue for you. The optimal plan will vary depending on the circumstances.
Our firm can help if you would like to discuss your unique personal situation with a local Charlotte estate planning law firm. We offer consultations, and we can get to know you, become apprised of your objectives, and make the appropriate recommendations.
To schedule an appointment, call us at (704) 944-3245 or send us a message through our contact page.
John’s practice focuses on the use of Wills and Living Trusts in Estate Planning to help individuals protect their families and preserve their legacies after their deaths, but his practice also focuses on the critical issues of protecting individuals with dementia or other diminished capacity, assisting individuals in qualifying for Medicaid and other government benefits to offset the costs of long-term care, and providing special needs planning.
John is admitted to practice law in North Carolina, South Carolina, Kentucky, and Ohio, and he is accredited by the Department of Veterans Affairs.
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