Under federal tax law, a 100% marital deduction is allowed for assets transferred either outright or in trust for a spouse in lifetime or death. Marital deduction planning encourages lifetime gifts between spouses and transfers at death for surviving spouses. Upon the surviving spouse’s death, any remaining property received from the decedent spouse, is included in the surviving spouse’s estate for federal estate tax purposes (assuming the surviving spouse has not remarried and again uses the marital deduction).
However, if, upon the death of a spouse, the surviving spouse is a non-citizen spouse, then the 100% marital deduction is only allowed if the transfer is to a qualified domestic trust (“QDOT”). If a non-citizen spouse were able to receive the money outright, then the non-citizen spouse could return to their country and avoid estate tax. Thus, the QDOT, with its strict requirements, is necessary. As principal distributions are made from the QDOT, the distributions are taxed.
If the surviving non-citizen spouse becomes a US Citizen and resides in the United States from the decedent’s spouse’s date of the death until the date the surviving spouse becomes a citizen, then the QDOT status can be terminated.
In private letter ruling (“PLR”), 201640006, the Internal Revenue Service (“IRS”) addressed the filing requirement if a QDOT is terminated. A QDOT was created for a surviving non-citizen spouse. The surviving spouse became a US citizen and met the residency requirements. A final required Form 706- QDT (U.S. Estate Tax Returns for Qualified Domestic Trusts) was not filed by the accountant and the accountant did not advise the trustees of such filing requirement. The trustees of the QDOT requested an extension of time to file such a return.
Under the regulations, the IRS has discretion to grant an extension of time for those times when the due date of the return is made by a regulation and when the taxpayer acted reasonably and in good faith and the relief will not prejudice the government interests. A taxpayer is treated as acting in good faith if the taxpayer reasonably relied upon a professional taxpayer and the tax professional failed to make or advise the taxpayer to make the election. The IRS allowed the extension of time to file the return.
ADVICE: While a QDOT is a very unique trust to be utilized in a very unique situation, with the mobility of our residents, do not forget to look at the issues of a non-citizen spouse. Every questionnaire should have such a question. If you are a beneficiary of a QDOT and become a citizen, then discuss with your advisor terminating the QDOT and make sure this final return is filed.
WORD OF THE WEEK: “Marital Deduction” is the ability to deduct from any gifts or estates those items that pass outright or in specific trusts for the benefit of a spouse. For example, assume Bob has an estate of 15 million. Upon his death he would have an estate tax of approximately $3.820 million (15 million less 2016 applicable exclusion amount of $5.450 million times 40%). If he gave $9.550 million outright or in trust for his spouse, he could take a marital deduction of $9.550 million and there would be NO estate tax (15 million less applicable exclusion amount of $5.450 million less a marital deduction of $9.550 million equals ZERO).
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