Beware the pitfalls of the portability rule

Beware the pitfalls of the portability rule

A provision of estate law allowing surviving spouses to retain the federal estate tax exemption of their spouse — portability — is helpful in estate planning. But there are certain situations, such as remarriage, where the benefit could be lost.

Prior to the provision, couples typically set up a trust to preserve or utilize the estate tax exemption.

With portability now a permanent rule, couples need to be aware of how it works. Here’s an example:

  • Husband (Bob) and wife (Christine) have a total net estate worth $8 million
  • During his lifetime Bob made total taxable gifts of $2 million, Christine has not made any taxable gifts
  • Bob passes away in 2015 with an unused exemption amount of $3.43 million (2015 exemption amount of $5.43 million minus $2 million in previous taxable gifts)
  • An estate tax return is filed to transfer the unused exemption amount of $3.43 million to Christine
  • Christine can shelter a total of $8.86 million for federal gift and estate taxes (Bob’s unused $3.43 million plus her total $5.43 million)
  • If Christine passes away there would not be federal estate tax due since her total estate of $8 million is less than her exemption amount of $8.86 million

The impact of remarriage
Because the portability provision only applies to the last deceased spouse, remarriage could have a drastic impact on future estate tax planning.

Continuing with the previous example:

  • Christine now remarries Joe.
  • Assume Joe has made total taxable gifts previously using his entire $5.43 million exemption amount.
  • If Joe passes away before Christine, she would “lose” the unused exemption amount of $3.43 million from her first husband Bob. That might result in a significant federal estate tax bill in the end.

Planning options
In the example, Christine has planning options. If federal estate taxes were a major concern to Christine, she could choose to retain her larger, lifetime exemption amount of $8.86 million (Bob’s unused $3.43 million + her $5.43 million) and simply not marry Joe. Also, she could have reduced the size of her estate by gifting assets before Joe’s death to “use up” Bob’s unused exemption amount of $3.43 million, since at that time Bob was technically the last deceased spouse.

Certainly these considerations and this type of planning can be complicated. For that reason, it’s imperative to work with a qualified tax and legal professional who is familiar with your personal situation.


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