Estate Planning with Portability Part II

In Part I of this Estate Planning with Portability series we were introduced to the concepts of the Unlimited Marital Deduction and the Federal Estate Tax Exemption amount (which we refer to as a coupon). We also introduced the couple Bob and Sara and their children Jake and Desiree. Through Bob and Sara we showed how an estate tax issue is created through lack of planning. We now turn to the two ways in which estate tax can be avoided through traditional planning techniques and the new concept called Portability.

Recall that Bob had a $3 million estate at his death, which after being transferred and combined with Sara’s $3 million estate created an estate tax of $400,000 at Sara’s death. Here’s how that tax is traditionally avoided:

At Bob’s death, his $3 million estate transfer into a trust. The trust is for the benefit of Sara during her lifetime, and then the assets transfer to Jake and Desiree at Sara’s death. The trust is set up in such a way that Sara can access the income produced as well as the principal of the trust for any reason to support her health and education as well as to maintain her lifestyle. Sara is named the Trustee of the trust.

Because Bob’s assets were transferred to a trust for Sara’s benefit as opposed to directly to Sara, the Unlimited Marital Deduction is not available to the estate. Rather, Bob’s estate uses his Federal Estate Tax Coupon.

On Sara’s death, since she was the beneficiary of the trust, and not the owner of the property left by Bob, the assets left in trust are not included in Sara’s estate for estate tax purposes. Sara’s estate totals $3 million. After applying her coupon, there is no estate tax due. So, Jake and Desiree receive their $6 million without giving any money to the government – $3 million from Sara’s estate, and $3 million from Bob’s trust.

So, traditionally, attorneys used trusts in this manner to help clients avoid/lessen estate taxes. Now let’s look at how we might use portability to achieve the desired estate tax effect:

If you recall our discussion on the Federal Estate Tax Exemption coupon, every estate has a coupon that may be applied so that a portion of their estate may transfer free of estate taxes. This coupon is personal to the individual, and is lost if not used. For married couples, there is an Unlimited Marital Deduction, so that property transferred from a deceased spouse to the surviving spouse passes free of tax. However, this had the effect of potentially creating a tax burden on the surviving spouse’s estate if the surviving spouse’s original assets plus inherited assets were combined greater than the survivor’s coupon.

In 2010 legislation, congress introduced the concept of portability. With portability, the deceased spouse’s coupon is now portable, meaning that the deceased spouse can transfer his coupon, in whole or in part, to his surviving spouse. The idea of this legislation was to make things easier on the married couple so that they wouldn’t have to create trusts to avoid estate taxation.

So, Bob does not need to leave assets in trust in order to take advantage of his Federal Estate Tax coupon. He can leave everything to Sara and port over his unused coupon.

In Part III, we’ll examine the pros and cons of the traditional and portability approaches. If you’d like to learn more or to speak with an estate planning attorney about your situation, contact Brady Cobin Law Group, PLLC your Raleigh Estate Planning Attorney for an initial consult – (919) 825-1518.