Minimizing Estate Tax On U.S. Real Property

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Canadians’ interest in acquiring U.S. real property for personal use remains strong. Without proper planning, however, that acquisition will expose the Canadian purchaser to U.S. estate tax on the fair market value of the American property at death, at a maximum rate of 40 per cent. A Canadian citizen and resident is subject to U.S. estate tax on his or her U.S.-situs assets at death. Under the U.S. Internal Revenue Code, a non-citizen/resident of the U.S. is entitled to an estate tax credit of $13,000, which exempts $60,000 of U.S.-situs assets at death from the U.S. estate tax. The 1995 Protocol to the U.S. — Canada Treaty provides additional relief by entitling Canadian citizens and residents to a pro rata piece of the U.S. estate tax credit, commensurate with the percentage of the Canadian’s worldwide assets that his or her U.S.-situs assets constitute. The U.S. estate tax credit exemption amount for U.S. citizens and residents is currently $5.25 million, increasing to $5.34 million in 2014. Additional relief may be available to the Canadian in the form of the marital credit under the treaty, in an amount up to the pro-rated credit if the U.S.-situs asset is left to a surviving spouse in a qualifying manner.

In the case of high net worth individuals, the available U.S. estate tax exemption and credits may be insufficient to eliminate the U.S. estate tax exposure. Taking title to the property via a properly-structured residence trust, however, can avoid U.S. estate tax exposure. A residence trust can be utilized in many situations, but works most easily for a married couple. Typically, one of the spouses (the “grantor”) creates the residence trust for the benefit of his or her spouse and issue, and contributes funds to the trust. In order for the trust assets to not be included in the estate of the grantor for U.S. estate tax purposes, the grantor cannot be a beneficiary or a trustee of the trust. The grantor’s spouse or issue can be the trustee, so long as the trustee’s ability to distribute funds is properly structured. The U.S.-situs real property is then purchased by the trust with the assets contributed to the trust by the grantor.

Originally Published in The Lawyers Weekly - November 29, 2013.

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