Surprising to most people, the federal estate tax is a voluntary tax. Estate planning attorneys used to say, “You only pay if you don’t plan.” Now, portability of the federal estate tax exclusion provides both an alternative and a back up plan to lifetime tax planning. This means you might be able to minimize or even eliminate federal estate taxes even if you didn’t plan. Here’s how.

Portability allows married couples to use two estate tax exemptions and save significant amounts in estate taxes without lifetime planning and without the division of assets. If the first spouse dies without using all of their federal estate tax exclusion, the unused amount can be transferred to the surviving spouse to use during their life to make large gifts or to reduce or avoid estate tax at their death. Referred to as the “DSUE” (deceased spousal unused exclusion).

The Key Takeaways

EVERYONE still needs lifetime estate planning to protect themselves, their families, and their assets. (Estate planning is not just about tax planning and it’s not just about money.)

• The failure to use both federal estate tax exclusions may cause an unnecessarily high tax bill for married couples.
• Portability lets married couples use both of their estate tax exclusions, with or without lifetime tax planning.
• Portability is not automatic—an estate tax return must be filed after the death of the first spouse, generally within nine months.
• Trust planning is still highly useful for both tax and non-tax reasons (e.g., asset protection and family line protection) and can be used with or without portability.

How Portability Works

With the enactment of the Tax Cuts and Jobs Act of 2017, the federal estate tax exemption doubled to $10 million adjusted for inflation (in 2020 it is $11.58 million). As a result, even fewer families have to worry about federal estate taxes. However, this provision of the TCJA is set to sunset on December 31, 2025. Barring intervention by Congress, the federal estate tax exemption will drop back down to the previous $5 million amount (adjusted for inflation).

If your net estate is more than $10 million and you are married, portability of the DSUE allows your surviving spouse to use your individual estate tax exclusion as well as his or her own, potentially allowing the transfer of millions in assets with no estate taxes, saving precious dollars from Uncle Sam’s clutches.

Note:   Portability is not automatic. A federal estate tax return (Form 706) must be filed within nine months after the death of the first spouse, or within any extension granted. If no timely return is filed, portability of the DSUE is forever lost, perhaps, causing the estate to pay more in estate taxes than was necessary and leaving less for the family.

Interestingly, remarriage does not change the identity of the most recently deceased spouse, and a surviving spouse can use multiple DSUEs.

Here’s an example:

Bob and Sue were married for many years. When Bob died, Sue’s attorney filed an estate tax return, thereby “electing” portability of Bob’s DSUE. Some time later, Sue married Phil. She decided to use Bob’s DSUE during her lifetime and made gifts to their children.

When Phil died a few years later, Sue’s attorney filed an estate tax return for Phil’s estate, making portability available. And, when Sue died, her estate was able to use both her estate tax exclusion amount and Phil’s DSUE.  Sue was able to use three federal estate exemptions and completely avoided the federal estate tax.

Keep in mind that if Sue had not used her first husband’s (Bob’s) DSUE before Phil died, it would have been wasted. Why? Because Phil would have become her most recently deceased spouse.

What You Need to Know

Trust planning can be used with or without portability and is still highly relevant for couples with any size of estate.

When there are children involved, especially if they are from a previous marriage or relationship, trust planning can allow the first spouse who dies to provide for the surviving spouse and keep control over who will eventually receive his/her share of the estate.

In addition, trust planning can protect assets from a beneficiary’s irresponsible spending, creditors, medical crises, lawsuits, and divorce proceedings, allowing the assets to remain within the family for generations to come. Trust assets can also provide for a special needs beneficiary without losing valuable government benefits.

Actions to Consider

Ask your estate planning team if and when you need to be concerned about state estate taxes and state inheritance taxes. (Some states have their own death/inheritance tax, often with a lower exemption than the federal estate tax. As a result, it is possible that an estate will be subject to state taxes even though it is exempt from federal).

• When a spouse dies, ask your estate planning attorney whether using portability is appropriate for you. (Most married couples can benefit from portability, even if only as a preventive estate planning measure. The value of assets may increase to more than one exemption before the surviving spouse dies.)
• If your second (or third) spouse is seriously ill, ask your estate planning attorney if you should use any remaining DSUE you may have from a previous spouse to make lifetime gifts to beneficiaries.
• Ask your estate planning attorney whether the generation skipping transfer (GST) tax is a factor for you. The GST tax exclusion amount is not portable and needs its own planning analysis.
• When your spouse dies, be sure the estate tax return (Form 706) is prepared and filed by a qualified professional such as an estate planning attorney in order to elect portability of DSUE.
• Ask your estate planning team about non-tax trust protections such as asset protection and family line protection.