Two significant events in 2013 underscored the nexus of marriage and taxes that make it possible for many couples to radically simplify their estate planning.
First, on January 2, 2013, Congress enacted a permanent (inasmuch as any tax law is ever permanent) estate and gift tax regime that included the concept of ‘portability,’ which has important and wide-ranging implications for federal estate tax planning. Coupled with the new larger lifetime exemption from estate and gift tax ($5,340,000 in 2014 and indexed for inflation), portability will allow the vast majority of married taxpayers to simplify their estate planning.
Second, on June 26, 2013, in U.S. v. Windsor, the United States Supreme Court struck down Section 3 of the Defense of Marriage Act (DOMA), which set the stage for the Internal Revenue Service to rule that henceforth, legally married same sex couples would be considered married for all federal tax purposes. The federal tax benefits (and burdens) of marriage are now available to same sex couples, who may now view the option of legal marriage in a new light even if their state of residence, like Pennsylvania, does not recognize it.
Though the word ‘portability’ is not included in any federal tax statute or regulation, it has become shorthand for the concept first introduced into law in 2011 that a surviving spouse can utilize any unused exemption from her last deceased spouse. Conceptually, portability remedies the problem posed by jointly held marital assets and individual estate tax exemptions. Traditionally, this was addressed by using a credit shelter trust, also known as a ‘family’ trust or A/B trust planning, to allow the first spouse to shelter an amount up to his allowable exemption but give the benefit of that sheltered amount to his surviving spouse. In this manner, assuming each spouse had sufficient individually owned assets to fund the credit shelter amount, the full amount of both exemptions could be used.
For many couples, however, this was an ill-suited fix at best. A typical couple owns a home jointly, joint financial accounts and retirement plan assets. For numerous reasons, it was difficult or undesirable to use any of those assets to fund a credit shelter trust and the resulting estate plan relied on future disclaimers by the surviving spouse. Portability now allows most couples with less than $10 million in combined assets to eliminate the credit shelter trusts in their plans without losing the benefit of the combined exemptions.
Windsor and Marriage Equality
Thea Spyer died in 2009. The assets passing to her surviving spouse, Edith Windsor, generated federal estate tax because the federal government did not recognize their Canadian marriage. Faced with a tax bill of more than $300,000, Edith filed suit for a refund and eventually won the case, leading to a major policy shift in the recognition of marriage by federal authorities. The IRS announcement, made at the end of August, that it would henceforth recognize any marriage legal in the jurisdiction in which the marriage took place, regardless of the domicile of the taxpayers, has fundamentally altered the tax calculus for same sex couples. Those who had been married in a domestic or foreign jurisdiction recognizing same sex marriage will now be treated as spouses for all federal tax purposes. Estate planning for married same sex couples now takes into account the availability of the marital deduction and the new portability regime addressed