The IRS has released Revenue Procedure 2017-34 granting an automatic extension through January 2, 2018 to make a late “portability” election. By electing “portability,” the surviving spouse can elect to “port” over to himself or herself, any unused estate tax exemption from the first spouse to pass away. This applies to the estates of individuals dying on or after January 1, 2011. Therefore, if your family has had anyone pass away since that time, you should consult with a qualified accountant or estate planning attorney to determine whether the unused exemption amount would have value for the surviving spouse.
Starting with deaths that occurred in 2011, a surviving spouse is allowed to “port over” the unused portion of the estate tax exemption of the deceased spouse. This has become known as “portability.” For example, if your spouse died in 2015 and you timely filed for portability, you would now have $10.88 million in estate tax exemption instead of $5.45 million. To avail himself or herself of the benefits of portability, the surviving spouse is required to timely file an estate tax return (Form 706) within nine (9) months of the date of death. For a variety of reasons, many do not file and lose their ability to elect portability.
For those who may be regretting that failure, a Christmas present arrived from the IRS on December 24 in the form of PLR 201552010. In that Private Letter Ruling, the IRS determined that an estate can request relief when the estate fails to timely file an estate tax return if the estate was not required to file the return statutorily. The IRS determined that relief will be granted if the taxpayer acted reasonably and in good faith and granting relief will not prejudice the government’s interests. In this case, the IRS determined that the taxpayer acted reasonably and in good faith in relying on a qualified tax professional and that the professional failed to make, or advise the taxpayer to make, the election. The IRS granted a 120 day extension to file the return. If you find yourself in this situation, talk with your tax professional to determine whether you may benefit from seeking such an extension.
This week the IRS released Revenue Procedure 2014-018 that temporarily allows an executor of an estate to make a late portability election. Starting with deaths that occurred in 2011, a surviving spouse is allowed to “port over” the unused portion of the estate tax exemption of the deceased spouse. This has become known as Portability. To avail himself or herself of the benefits of Portability, the surviving spouse is required to timely file an estate tax return (Form 706) within nine (9) months of the date of death.
For example, Bob and Sally have a combined estate that totals $6 million. If Bob died in January 2013 and Sally inherited everything, Bob would not use any of his $5.25 million 2013 estate tax exemption as everything would pass to Sally tax free because of the unlimited marital deduction. Sally then dies in 2014 with all $6 million in her estate. If she had timely filed an estate tax return for Bob and elected portability in 2013 there would be no estate tax due at Sally’s death (her total exemption would be $10.59 million – Bob’s $5.25 million exemption plus her $5.34 million exemption for 2014). If she had failed to timely file the return, estate taxes would be owed on the difference between her $5.34 million 2014 exemption and the $6 million estate or $660,000. At the current rate of 40%, that would mean $264,000 payable to the IRS. Fortunately for Bob and Sally’s family if they missed the opportunity the first time, the IRS has now given them a second chance.
This revenue procedure applies only if:
1. The taxpayer is the executor of the estate of a decedent who:
- has a surviving spouse;
- died after December 31, 2010 and on or before December 31, 2013; and
- was a citizen or resident of the United States on the date of death.
2. The estate is not required to file an estate tax return under § 6018(a) (as determined based on the value of the gross estate and adjusted taxable gifts); and
3. The taxpayer did not file an estate tax return within the time prescribed for filing an estate tax return required to elect portability. This Revenue Procedure cannot be used as a “do-over” for those who timely filed a return, but opted out of Portability.
If eligible, the estate must:
- File a complete and properly prepared Form 706 by December 31, 2014; and
- State at the top of the form that the return is “FILED PURSUANT TO REV. PROC. 2014‑18 TO ELECT PORTABILITY UNDER §2010(c)(5)(A).”
If you were unaware of this election or otherwise failed to take advantage of it, we would strongly encourage you to review your situation and determine whether or not filing for portability makes sense. Remember, just because you are under the estate tax exemption amount today does not mean that you will be in the future given the growth that commonly occurs.
The Pros and Cons of Portability Part II – The Continued Importance of a flexible Credit Shelter Trust
Last week I discussed some of the pros and cons of Portability, the federal law recently made permanent, which allows the surviving spouse to carry over the unused portion of the deceased spouse’s estate tax exemption amount. My conclusion was that while Portability is a good back-up plan, for a variety of reasons it should not be the first line of defense against estate taxes. I continue to believe that the first and best choice in planning to preserve both spouses’ estate tax exemption remains a properly drafted credit shelter trust.
While there is an initial up-front cost in drafting a living trust to include the creation of a credit shelter trust following the death of the first spouse, that cost is generally less than the cost of the estate tax return required to take advantage of portability. The credit shelter trust can be set up so that funding is either mandatory or discretionary. Because we never really know what the tax situation will be at the time of the first spouse’s passing, my preference is to plan flexibility into the trust and make the funding of the credit shelter trust discretionary. By using a properly drafted credit shelter trust, if the surviving spouse remarries, the exemption will not be lost. Additionally, if done properly the surviving spouse will have creditor protection, including protection against claims by the new spouse – I call this re-marriage protection. These are great benefits that Portability simply cannot provide.
An additional consideration exists for those who live or have significant holdings in a state that has its own estate or inheritance tax. In these states, the amount exempt from the estate tax is often significantly less than the federal exemption. This means that while you may not have a federal estate tax, you may still owe taxes in your respective state. In 2013, there are 21 states and the District of Columbia that have some form of separate state estate and/or inheritance tax. (Click here to see if your state is one). Portability only applies to the federal estate tax. However, your credit shelter trust can be drafted to ensure both spouses’ state exemptions are also maximized.
While I expect there will be continued evolution with Portability in the coming years, for now, a credit shelter trust is still the best option.
Starting with deaths that occurred in 2011, a surviving spouse can carry over the unused portion of the estate tax exemption of the deceased spouse. This is known as Portability. While Portability was originally only applicable if both spouses passed away in either 2011 or 2012, with the passage of the American Taxpayer Relief Act on January 2, it was made permanent (which really means that it is no longer scheduled to expire). So the question now is whether or not to rely on Portability as your sole estate tax planning tool. To answer that question, I think it is important to look at the Pros and the Cons of such a strategy.
– Portability allows you to avoid the costs associated with the creation of a credit shelter trust
– Portability allows the surviving spouse continued control of all assets
– Portability allows for a step up in basis on all assets at the death of the surviving spouse
– Portability requires the cost of preparing and filing an estate tax return
– Portability is lost if the estate tax return is not timely filed
– Portability is lost if surviving spouse re-marries
– Portability does not apply to the Generation Skipping Tax
– Portability does not allow you to shelter the appreciation of assets
– Portability provides no creditor protection
Weighing the pros and cons, it is my opinion that portability is a good back-up if no planning has occurred, but a properly drafted credit shelter trust is still the preferred way to ensure the proper use of both spouses exemptions and provides many more ancillary benefits.