Obscure Question Gets Some Light
When the first letter from a reader came in, I thought the question was much too obscure for a consumer law column: Does the unlimited marital deduction in the federal estate-tax law apply to a spouse who is not a U.S. citizen?
Then I received additional letters asking the same question, and I began to realize that this topic is of interest to more people than I thought. Or at least it is very important to the few people who are interested.
But first, let’s understand the question.
When a person dies, the heirs must pay federal tax on the amount of the estate that’s worth more than $600,000. (And in Southern California, where home prices are soaring, many people have that kind of a net worth and don’t even realize it.) The transfer of the first $600,000 is basically tax-free--or in legalese, there is a corresponding deduction for the amount of the tax due.
However, and this is a big however, if you leave all your assets to your spouse, the spouse does not have to pay any federal estate tax when it is received. This is known as the unlimited marital deduction.
Now comes the question: If your spouse is not a U.S. citizen, can he or she still claim the deduction?
No. The marital deduction is denied, and the spouse will have to pay the full tax, unless the non-citizen spouse’s interest (the gift received) is in the form of a qualified domestic trust (QDOT), explained Jeffrey B. Wheeler, a lawyer with the Beverly Hills firm of Rosenfeld, Meyer & Susman.
In other words, a person’s estate must be transferred into a very special kind of trust in order for the transfer to occur without any tax due. There are several technical requirements for a QDOT trust, but the key one is that the trustee must either be a U.S. citizen or a U.S. corporation.
While this may appear to be an obscure legal point, Wheeler described it as a land mine. It could literally cost hundreds of thousands of dollars in taxes to the unlucky person who discovers it too late.
If you happen to have a spouse who is not a U.S. citizen, this is big news--news that has been around since November, 1988, when something called TAMRA--the Technical and Miscellaneous Revenue Act of 1988--first went into effect.
The apparent rationale of the change in the law was to make sure that a non-citizen spouse did not collect his or her inheritance and then leave the United States, never to return, and leave the government without its fair share when that spouse then dies. (If both spouses are U.S. citizens, the government will collect tax when the second spouse dies.)
Even if your will or trust was drafted before November, 1988, when the new law went into effect, you’re still out of luck. Wheeler said: “The frightening thing about this particular provision is that unlike other changes (in the tax law), this provision was not grandfathered.”
If you are one of the unlucky ones affected by this provision, you should immediately consult a professional. Do not pass GO. Visit your lawyer. And ask about creating a QDOT trust.
