Diane Freda for BloombergBNA writes: Estate tax attorneys are hoping to persuade the Internal Revenue Service to clarify that, under Revenue Procedure 2001-38, smaller estates are allowed to qualify for the marital deduction through a qualified terminable interest property (QTIP) trust and also claim portability.
Some members of the American College of Trust and Estate Counsel want IRS to make an additional exception to the revenue procedure that will clarify that the guidance does not apply to QTIP trusts—otherwise known as marital deduction trusts—when the portability election is made.
Not only did portability not go away, it was increased under the new law to $5.25 million. This could cause some planners to sit up and take notice in 2013.
Lester Law, managing director, U.S. Trust, Bank of America Private Wealth Management
“That kind of clarification will enable the first spouse to die to use a trust format for passing assets to the surviving spouse and still allow the first spouse's estate tax exclusion amount to pass by portability to the surviving spouse,” Richard Franklin, an attorney with McArthur Franklin in Washington, told BNA March 25.
Minimizing capital gains tax is one of the main reasons that estate tax attorneys are pushing for a change to the rules.
“For married couples where their aggregate estate is less than the aggregate of their two estate tax exclusion amounts, an estate tax result that is zero and a basis adjustment at the surviving spouse's death for the aggregate estate eliminates any capital gains tax,” Franklin said. “You get a zero estate tax result and a zero income tax result.”
The Inadvertent Deduction
Currently, the guidance says QTIP elections only apply where, based on final estate tax values, the election was not necessary to reduce the estate tax liability to zero.
Therefore, small estates of less than $5.25 million would not be able to use the QTIP election, because the estate's assets would be below the current estate tax exclusion amount of $5.25 million.
Although portability allows a spouse who dies to pass on the unused portion of the current estate tax exclusion amount to their surviving spouse, wealth planners said it may not address all the income tax consequences that come from transferring estate assets.
The 2001 guidance was designed to address situations where taxpayers were making unnecessary QTIP elections, because the estate would not have had to pay estate tax anyway.
“Everyone is paying more attention to portability than they did last year and the year before because it is permanent now,” George Karibjanian, senior counsel with Proskauer Rose in Boca Raton, Fla., told BNA March 27.
Relying on traditional credit shelter trusts may not achieve the same result as allowing a married couple to pass $10.5 million of assets in 2013 without any estate taxes and with a full step-up in basis, he said.
“It seems to be advantageous in certain estates if the entire first estate qualified for the marital deduction. If you did a straight credit shelter trust, while it would escape estate taxation, you wouldn't get a step-up in basis on the second death,” Karibjanian said.
Estate tax attorneys want to be able to use QTIPs rather than the traditional credit shelter trusts so that they can transfer assets from a deceased spouse without the surviving spouse having to pay capital gains tax on the transferred assets when they appreciate in value.
There are no basis adjustments for credit shelter trusts at the second spouse's death. But with a QTIP trust, the property is included in the surviving spouse's estate and a basis adjustment is allowed. With a step-up in basis, the value of the assets is the higher market value at the time of inheritance, rather than the value at which the original party purchased them.
Estate Taxes Versus Income Taxes
Lester Law, managing director, U.S. Trust, Bank of America Private Wealth Management, Boca Raton, Fla., told BNA March 27 that while the focus in 2012 was on taking advantage of the higher per person gift tax exclusion of $5.12 million that many planners were afraid would go away, now that portability has become permanent, it is a “game changer.”
Not only did portability not go away, it was increased under the new law to $5.25 million. This could cause some planners to sit up and take notice in 2013, Law said.
“Portability represented the first time in over 30 years that couples won't have to use up the exclusion upon the death of the first spouse,” he said. “Portability now allows the couple to use their two exclusion amounts at any time from today until the second spouse dies. It offers a tremendous amount of flexibility and a new way for couples to plan.”
When the couple's estate is less than the current $10.5 million exclusion amounts, estate taxes are not payable, so it is then that advisers begin to look at how to minimize income tax, Law said.
But when couples get close to using up their full exemption, then both estate taxes and income taxes of the competing plans must be considered.
“With taxable estates, there is that tension that exists between income taxes and estate taxes,” Law said. “In the past, the tension was much less, because the estate tax rates were much higher and the income tax rates lower, but in the new tax regime, with the compression of estate and income tax rates, the tension is there.”
Statistically, Law said most married couple's estates will have less than the current joint estate tax exclusion amount so using QTIP planning in combination with portability will be needed for the majority of couples planning their estates.
All three practitioners said the IRS revenue procedure should be amended to allow planners to say that if portability is elected, the revenue procedure would not apply—meaning that even if the QTIP election was unnecessary to reduce the estate tax to zero, it is not void.
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