One of the most important estate tax planning benefits available to married couples in the United States is the unlimited marital deduction. This allows one spouse to pass, during life and at death, an unlimited amount of assets to the other spouse without having to pay any Federal estate or gift taxes. For transfers at death, this allows the surviving spouse to defer estate taxes on such assets until survivor's later death.
Taxation of Resident Aliens
Resident aliens (holder's of green cards) are generally treated the same as U.S. citizens for Federal estate and gift tax purposes when the resident alien makes gifts. A resident alien is a non-U.S. citizen domiciled in the United States.
While citizens and residents are treated similarly for giving purposes during life and at death, treatment of noncitizen spouses is different when that spouse is a beneficiary. The unlimited marital deduction does not apply to lifetime gifts and death transfers to noncitizen spouses, even if they are lawful permanent residents of the United States.
When the surviving spouse is not a U.S. citizen, lifetime gifts in excess of $143,000 per year (for 2013) are subject to federal gift tax. At death, if the surviving spouse is not a U.S. citizen, the transfer will not qualify for the unlimited marital deduction. Unless special planning is done, gifts to the non-citizen spouse, will not qualify for the unlimited marital deduction. To defer taxes until the second death, a qualified domestic trust (“QDOT") must be utilized.
How the QDOT Works
Essentially, the QDOT is a trust designed to allow the non-citizenspouse to take advantage of the estate tax marital deduction. All the income of the trust must be paid to the surviving spouse at least annually (this is the same as QTIP rules). In addition, principal can only be paid to the surviving spouse for hardship. When the non-citizenspouse dies, the estate tax is paid and any remaining principal is distributed as directed in the trust document, usually to the children.
A QDOT can be set up by the surviving spouse, as long as it is established and the property transferred to it by the due date of the U.S. estate tax return (nine months after death, or 15 months with an extension). This allows the spouse to customize the trust to accommodate the requirements of U.S. tax laws at that time.
Requirements for a Qualified Domestic Trust (QDOT)
The basic requirements are:
- The QDOT must have at least one trustee who is an individual U.S. citizen or a domestic corporation.
- The U.S. trustee must be able to withhold taxes due on any distributions of the trust principal.
- The executor of the estate must make the QDOT election to qualify for the marital deduction.
If the QDOT has assets exceeding $2,000,000, the U.S. trustee must be a bank, or the individual U.S. trustee must furnish a bond or letter of credit to the U.S. Treasury for 65% of the value of the QDOT assets at the first spouse’s death.
Because of the impact that estate taxes can have, a QDOT requires careful planning with your tax and legal advisors. Be sure to consult both if you are considering this type of trust.