Are you married to an alien? Did you meet your spouse at Area 51 outside Roswell Nevada or maybe had a Close Encounter of the Third Kind? Is your husband from Mars and your wife from Venus? Although not as celestial, you could simply be married to an earthling who is not a U.S. Citizen. If your spouse is not a U.S. Citizen many of the U.S. tax laws still apply but may not apply in the same way that they would if your spouse is a U.S. Citizen.
In this article, we discuss how being married to a person who lives in the U.S. (but not a U.S. Citizen) is affected by the Federal Estate and Gift tax laws. The scope of this article is limited to considering the Federal laws applicable to persons who are legally here for the indefinite future. For example, this article does not include the laws applicable to persons who are in the U.S. illegally or here legally but on a visa or other temporary basis. However, we do not distinguish between earthlings and spousal units named “Conehead.” (Were they really from France?)
Persons who are not U.S. Citizens but who are in the U.S. legally and establish a domicile in the U.S. are considered Resident Aliens. For this purpose domiciled means living in the U.S. with the intent of staying for the indefinite future.
Resident Aliens are subject to the Federal Estate and Gift tax laws. However, the rules are different than those applicable to a U.S. Citizen. To make things even more interesting, the application of the Federal laws to persons who are not U.S. Citizens can be affected by whether the country in which the person is a citizen has an Estate and/or Gift tax treaty with the U.S. Here is a link to the IRS’s list of the countries that have an Estate and/or Gift tax treaty with the U.S.
On December 17, 2010 the Tax Relief, Unemployment Insurance Reauthorization, and Job Creation Act of 2010 (TRA 2010) was signed into law by President Obama. The following is a brief summary of the Estate laws applicable for gifts made in 2011 and 2012 and for those dying in 2011 and 2012.
For U.S. Citizens and Resident Aliens, the U. S. Estate and Gift tax laws apply to all of their assets wherever they are located. However, U.S. Estate and Gift tax laws also apply to people who are neither U.S. Citizens nor Resident Aliens to the extent that they own assets located within the U.S.
U.S. Estate and Gift tax laws reflect a concern that people who are not U.S. Citizens may try to escape the long-arm of the U.S. Government. These laws operate to limit how much can be given free of Estate and Gift tax by a spouse who is a U.S. Citizen to a spouse who is not a U.S. Citizen. This is because if the spouse who is not a U.S. Citizen leaves the U.S. it may be more difficult for the U.S. Government collect the Estate tax when that non-U.S. Citizen surviving spouse dies.
In general, completed gifts are subject to a Federal Gift tax. However, there are some exceptions where gifts are not subject to Gift tax.
Exceptions For U.S. Citizens:
First let’s cover the laws that apply to most people in the U.S. If the person making the gift and the person receiving the gift are both U.S. Citizens then, under the current law (for gifts made in 2011 and 2012) the Federal Gift tax laws provide some exceptions where gifts are not subject to Gift tax, including:
- There is no Gift tax on a gift to a particular person of up to $13,000 per calendar year.
- There is no Gift tax for gifts for a person’s qualified medical and/or tuition costs so long as they are paid directly to a medical or educational institution.
- There is no Gift tax on any gifts made to a spouse.
If the gift is subject to Gift tax, you can either pay the tax or elect to use up part of your $5 million lifetime Gift tax exclusion.
Exceptions For Non-U.S. Citizens:
The Gift tax exceptions are different where a spouse is not a U.S. Citizen. There is a limit placed on how much a U.S. Citizen spouse can gift to non-U.S. Citizen spouse before there is a Gift tax. For gifts made in 2011 a U.S. Citizen spouse can only exclude from Gift tax $134,000 of gifts made to or for the benefit of their non-U.S. Citizen spouse. The exclusion amount changes from year to year.
The current Federal Estate Tax laws apply for those dying in 2011 and 2012. Estate taxes are assessed against asset owned (or in some cases simply controlled) by a person who dies. Estate taxes are assessed based upon the Fair Market Value (FMV).
Exceptions For U.S. Citizens:
If the person dying and the person inheriting the assets are both U.S. Citizens then, under the current law (for those dying in 2011 and 2012) the Federal Estate tax laws provide some exceptions where assets are not subject to Estate tax, including:
- There is no Estate Tax to the extent that a surviving spouse inherits assets from their deceased spouse.
- Each deceased person gets the benefit of a $5 million “Exclusion”.
- For the first time ever, the unused portion of a deceased spouse’s $5 million Exclusion can be used by their surviving spouse.
It should be noted:
- That a person’s Federal Estate Tax Exclusion is reduced to the extent that the person uses their $5 million lifetime Gift Tax Exclusion.
- That Illinois also has an Estate Tax but only allows an exclusion of $2 million. Accordingly, some people who are not subject to Federal Estate Tax might not escape the Illinois Estate Tax.
- That there is no way to know what the Federal and Illinois Estate and Gift Tax laws will be after 2012. Further, even these laws can be changed at any time; lawmakers do not have to wait until the end of 2012 to change them.
Exceptions For Non-U.S. Citizens:
The Estate tax laws are different where a surviving spouse is not a U.S. Citizen. If the surviving spouse is not a U.S. Citizen the estate of the deceased spouse who is a U.S. Citizen does not get the benefit of the unlimited marital deduction. Of course, the $5 million Exclusion may still be available because this Exclusion does not hinge upon the assets going to a surviving spouse (let alone a surviving spouse who is a U.S. Citizen).
(Please note that if the surviving spouse is a U.S. Citizen the estate of the deceased spouse does get the benefit of the unlimited marital exclusion even when the deceased spouse is not a U.S. Citizen. The logic behind this is that the U.S. Government is more assured of someday collecting an Estate tax when surviving spouse dies where the surviving spouse is a U.S. Citizen.)
There is some partial relief. The law provides a way to defer the Estate tax so long as strict rules are followed. If a deceased spouse has no $5 million Estate tax exclusion remaining (e.g. that person avoided paying Gift taxes on gifts by electing to make use of their lifetime Gift tax exclusion) and the deceased spouse gives the assets to their non-U.S. Citizen surviving spouse subject to a special kind of trust, then the Estate tax on those assets can be deferred (but not avoided). This special trust is called a Qualified Domestic Trust (“QDOT”).
The QDOT is normally created through the use of a revocable living / grantor trust. That is, the QDOT is built-in to the grantor trust. To qualify as a QDOT, the following requirements must be satisfied:
- The trustee (or co-trustee) of the QDOT must be a U.S. Citizen or a domestic corporation.
- Income can be distributed to a surviving spouse who is not a U.S. Citizen regardless of amounts and free of Estate tax. Of course, distributions of income would still be subject to the Income tax laws.
- The principal of the trust can only be withdrawn for health, education, maintenance and support. Further to the extent that any principal is withdrawn (regardless of the purpose) an Estate tax is assessed based upon the Estate tax rates applicable to the first spouse to die.
- Even if no QDOT was established in the estate planning documents of the U.S. Citizen spouse who died, the executor of the deceased spouse’s estate (or if applicable, trustee of their trust) could elect to create a QDOT. For this to work, the assets must be placed in the QDOT and an election to create the QDOT must be filed with the IRS. Both the asset transfer and the election must be made within 9 months after the death of the U.S. Citizen spouse’s death. The 9 month deadline can be extended for up to 6 additional months based upon a timely filed extension of the Estate Tax Return of the deceased spouse.
- In the event that more than 35% of the assets in the QDOT are real property located outside of the U.S. (or the FMV of the assets of the QDOT exceed $2 million) then the trustee must either be a domestic U.S. bank; or the trustee must furnish a bond (or an irrevocable letter of credit) equal to 65% of the FMV of the QDOT’s assets.
When you marry an alien there could be some unhappy Estate and Gift tax surprises. This could result in large Gift or Estate taxes for the unwary. If your spouse is from a country that has an Estate and Gift Tax treaty with the U.S. the terms of the treaty may change the results discussed above. Through careful planning, it may be possible to avoid Gift taxes and defer Estate taxes. The QDOT allows for the deferral of Estate tax but only if all of the rules are followed. One way to solve the problem is for your spouse to become a U.S. Citizen. Of course, if you marry a non-earthly alien, complying with the Federal Estate and Gift tax laws may not protect you from being morphed into a green slimy blob.
Copyright ©, Keith B. Baker – 2011
This article is designed to be a public resource of general information. It does not constitute “legal advice” nor does it create a “client-attorney” relationship. While the information is intended to be accurate, this cannot be guaranteed. Tax laws are complex and constantly changing as a result of new laws, regulations, court interpretations and IRS pronouncements. Often, there are also various possible interpretations. Further, the applicable rules can be affected by the facts and circumstances of a particular situation. Because of this, some of the information may no longer be correct or may not apply to all situations. We are not responsible for any consequences or losses resulting from your reliance on such information. You are urged to consult an experienced lawyer concerning your particular factual situation and any specific legal questions you may have.
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