The federal estate tax is currently set at 40%. This tax is applicable on the portion of your estate that exceeds the federal estate tax exclusion or credit amount.
You should consider taking steps to gain estate tax efficiency, especially if your estate is going to be subject to estate taxes. The utilization of a qualified domestic trust (QDOT) can provide a solution under certain circumstances. We will provide details in this post.
Estate Tax Parameters
Before we get into the explanation of the qualified domestic trust, we need to look at the federal estate tax exclusion amount. In 2017, the Tax Cuts and Jobs Act was enacted, which doubled the existing exclusion amount.
This resulted in $11.18 million exclusion in 2018. This amount has increased since then to account for inflation. At the end of 2021 the exclusion amount was $11.7 million.
The record high exclusion will not last indefinitely. One of the potential components of the reconciliation bill that we have heard so much about in 2021 would reduce the exclusion to just over $6 million.
This is a significant reduction. You should be mindful of the fact that even if the exclusion is not reduced in 2022, the provision in the original Act will expire at the end of 2025. This will result in a reversion to the $5.49 million exclusion that we had in 2017, adjusted for inflation.
Some people in our area are “land rich and cash poor.” You may not consider yourself to be extremely wealthy, but you could own a large ranch or some other real property that has a great deal of monetary value. This property would be part of your estate for tax purposes.
You cannot avoid federal estate taxes by giving large gifts to your family and friends. You can gift up to $15,000 per person in any given year without incurring any gift tax. Any amount that exceeds the exclusion amount would be subject to the gift tax.
You can give a gift of more than $15,000 tax-free. Such a gift, however, would require you to use some of your gift and estate tax exclusion.
There is an unlimited marital estate tax deduction. This allows you to transfer any amount of property to your spouse without incurring any transfer tax exposure. There is, however, one caveat. You must be married to an American citizen to qualify for the deduction.
Now that we have set the stage appropriately, we can explain the qualified domestic trust. You can use a QDOT to gain estate tax efficiency if you are married to a citizen of another country and your estate is going to be exposed to the estate tax.
To implement this strategy, you would fund the trust, and your spouse would be the first beneficiary. We will assume that your children would be the successor beneficiaries, but you can name anyone that you choose.
If you die before your spouse does, your surviving spouse would be able to accept distributions of the trust’s earnings, and the estate tax would not be applicable. Your spouse would, however, be required to report the income on their regular income tax returns.
Any distributions of the principal would be subject to the estate tax unless a hardship exemption is granted by the Internal Revenue Service. Your spouse would also be able to live in the marital home or otherwise use property that is owned by the trust.
After the death of your spouse, your children would inherit the assets that remain in the trust. The estate tax would be a factor at that time if the value of the assets exceeds the exclusion. However, two generations would benefit, and there would be just one instance of taxation.
Plus, you would be making sure that your children definitely receive the inheritances that you want to leave to them.
Schedule a Consultation Today!
Even if taxation is not a source of concern, you should work with an Oklahoma City estate planning attorney to put a custom crafted plan in place. If you are ready to do just that, you can send us a message to request a consultation or call us at 405-843-6100.