You may wonder if you can leave your estate to your spouse tax-free, Before we answer this question, let’s take a general look at taxes as they apply to bequests.
Income Tax
It seems as though you are asked to pay income taxes any time you receive an influx of money. This can lead to the believe that your spouse may be required to report an inheritance as income.
This is not the case. An inheritance would not be looked upon as taxable income by the Internal Revenue Service. However, it should be mentioned that income or gains from that inherited property after your death could be taxable.
Federal Estate Tax
We have a federal estate tax that carries a maximum rate of 40 percent. Fortunately, there is a federal estate tax credit or exclusion. The estate tax is not applicable on asset transfers if the amount in question does not exceed the amount of this exclusion. In 2014 the federal estate tax exclusion is $5.34 million.
If you are not transferring more than $5.34 million, you don’t have to worry about the estate tax. If you are, you must take steps to protect against estate taxes.
Unlimited Marital Deduction
You must use a portion of your $5.34 million exclusion to give tax-free inheritances to others, with one exception. There is an unlimited marital deduction that allows you to bequeath unlimited assets to your spouse free of the federal estate tax.
There is a federal gift tax in place that is unified with the estate tax. It exists to stop people from giving gifts while they are living to avoid the estate tax.
This unlimited marital deduction also extends to gift giving. You can give gifts of unlimited value to your spouse free of taxation. (For others, non-counted gifts are limited to $14,000 per year per person.)
American Citizenship
To be able to take advantage of the unlimited marital deduction, your spouse must be an American citizen. Let’s look at the reasoning behind this stipulation.
If you are married to an American citizen and you leave everything to your spouse tax-free using the marital deduction, what happens then? Your spouse will be in possession of an estate that is taxable. The IRS will still be in a position to take its cut.
On the other hand, suppose the unlimited marital deduction was extended to non-citizen spouses. If you are married to someone who is a citizen of another country, your surviving spouse could return to his or her country of citizenship after you die with a tax-free inheritance.
When he or she passes away, the United States Internal Revenue Service would not be in a position to levy a death tax.
Tax Efficiency Strategies
This post was intended to provide a little bit of surface information. If you have detailed questions about estate planning and taxation, contact our firm to schedule a free consultation.
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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