When a married couple dies, they are able to exempt a certain amount of their estate from taxes. Portability allows the first spouse who dies to transfer their unused estate tax applicable exclusion to the other, living, spouse. This amount can then be used for their gift or estate tax purposes when the second spouse dies. The exemption amount changes every year due to inflation.
The best way to understand this is as follows:
Margaret and John are a married couple. When Margaret dies in 2011, the executor of her estate makes the portability election. Assume that Margret’s “deceased spousal unused exclusion” (DSUE) amount is $4 million. In 2013, the basic applicable exclusion amount equals $5.25 million, and John dies. Now the applicable amount available to John’s estate equals $9.25 million because he can add the $4 million that was not used by his spouse to his maximum amount.
This is calculated by adding the surviving spouse’s (John) basic applicable exclusion amount and the aggregate DSUE amount from Margaret.
Why does it matter?
The effect of portability is it potentially doubles the estate tax exemption available to the surviving spouse to use for lifetime gifts or at the second death. Because estates are taxed at such a high rate, preserving portability means that the heirs will ultimately be able to receive more money.
Even if your estate is not very large, preserving portability can protect your assets in the future if the surviving spouse experiences a windfall (like winning the lottery!) and is an option that can and should be explored by everyone, even if it ends up not being the best strategy for your estate.
How to utilize portability?
Portability is not automatic, and it is very important that the executor follow the proper protocol. In order to utilize portability, there are several requirements that must be met:
First, an election must be made by the executor of the estate. If an election is not made, portability is forfeited.
Second, the election must be timely filed on or before nine months after the deceased spouse’s date of death. If more time is needed, an automatic six- month extension of time to file the return can be requested through Form 4768. If the deadline is missed and there is no extension, then the couple will not have the benefit of estate tax portability, and this may result in thousands of dollars of unnecessary and avoidable estate taxes.
Third, a complete and properly prepared Form 706 must be filed.
If you are interested in learning more about the portability exception and how it applies to your estate, contact Adkins Law to set up a consult today!