Temporary Regulations Explain Portability of Estate Tax Exclusion
The IRS has issued temporary and proposed regulations on the portability election that allows the estate of a deceased spouse who died after December 31, 2010, and before January 1, 2013, to transfer the decedent’s unused estate tax exclusion amount to the surviving spouse. The regulations require an estate electing portability of a deceased spousal unused estate tax exclusion (DSUE) to make the election using Form 706, whether or not any estate tax is due.
Take Away: Unlike the estate tax marital deduction, which effectively defers tax on the death of the first spouse, portability provides a permanent benefit for married couples. Moreover, the surviving spouse can claim the unused exclusion against all estate tax assets, not just those passing to particular survivors. This portability feature is likely to be continued with any extension of reduced estate tax rates after 2012.
The Tax Relief, Unemployment Insurance Reauthorization, and Job Creation Act of 2010 (2010 Tax Relief Act) provided the portability election for 2011 and 2012. Under the 2010 Tax Relief Act, the estate tax exclusion amount is $5 million. Under portability, the estate of the surviving spouse will be able to claim the applicable estate tax exclusion plus the DSUE amount.
The executor of the deceased spouse’s estate must make an affirmative election for portability of a DSUE amount on a return that is filed on time (including an extension). The portability election is irrevocable once the (extended) due date of the return has passed. An estate may supersede a portability election previously made, provided the return reporting the decision not to make the election is filed on time.
Comment: An estate that does not file a return on time will be treated as not making an election. If the estate is required to file a return, it has to make a negative election on the return to opt out of portability.
Estate tax returns are due nine months after the decedent’s death, with one six-month filing extension. Under existing law, there is no filing deadline if the exclusion amount exceeds the value of the estate. The temporary regulations clarify that every estate electing portability must file a return within nine months of the date of death (plus the six-month extension), regardless of the size of the gross estate.
Comment: Practitioners were disappointed that the IRS has not provided a simplified estate tax form for small estates to make the election. However, the IRS simplified the filing process by allowing small estates to estimate the value of the gross estate, without having to value property that qualifies for the marital or charitable deduction.
Computing the DSUE amount
An estate electing portability must include a computation of the DSUE amount on the estate tax return. In Notice 2011-82, the IRS deemed the computation to have been made if the return was complete and properly-prepared. The regulations retain this transition rule until the IRS revises Form 706 to include the computation of the DSUE amount. After Form 706 is revised, estates that previously filed under the transition rule do not have to file a supplemental return showing the amount.
Comment: The regulations provide examples of computation of the DSUE amount, when earlier taxable gifts are made. For example, a previous $1 million taxable gift in 2002 on which no gift tax was due and a $1 million taxable estate in 2012 yields a $3 million DSUE (a $5 million basic exclusion amount over the sum of the taxable estate and adjusted taxable gifts).
The IRS chose not to provide guidance at this time on whether the DSUE amount is determined before or after the application of other credits described in Code Sections 2013-2015.
The DSUE amount is computed using the basic exclusion of the last-deceased spouse. The regulations clarify that this refers to the most recently deceased individual who was married to the surviving spouse at that individual’s death. The identity of the last-deceased spouse is not affected by whether that spouse’s estate elected portability or had any DSUE amount. The IRS also clarified the DSUE amount available in case of multiple spouses.
Returns of deceased spouses
The regulations confirm that the IRS may examine the return of the deceased spouse of a surviving spouse, to determine the allowable DSUE amount, even if the period of limitations has expired on the deceased spouse’s return. The IRS may adjust the DSUE amount upon examination. However, it cannot otherwise adjust the deceased spouse’s estate taxes if the limitations period has expired. The time spent by the IRS to compute the DSUE amount will not suspend the limitations period for a regular estate tax return examination.
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