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In-Depth: IRS Finalizes Estate and Gift Tax Exclusion Portability Regulations.

(Parker Tax Publishing June 20, 2015)

The IRS has issued final regulations that provide guidance under Code Secs. 2010 and 2505 on the estate and gift tax applicable exclusion amount, in general, as well as on the applicable requirements for electing portability of a deceased spousal unused exclusion (DSUE) amount. T.D. 9725.

Background

In December 2010, the Tax Relief, Unemployment Insurance Reauthorization, and Job Creation Act of 2010 (TRUIRJCA) amended Code Sec. 2010(c) to allow portability of the estate and gift tax exclusion amount between spouses. The portability was scheduled to expire after December 31, 2012, but in January 2013, the American Taxpayer Relief Act of 2012 made it permanent.

Code Sec. 2010(c)(2) defines the applicable exclusion amount, used to determine the applicable credit amount, as the sum of the basic exclusion amount and, in the case of a surviving spouse, the deceased spousal unused exclusion (DSUE) amount. The basic exclusion amount, which is adjusted for inflation annually, is $5.43 million for 2015.

OBSERVATION: A surviving spouse may use the DSUE in addition to his or her exclusion amount, allowing for a maximum exclusion of $10.86 million in 2015.

The IRS issued temporary and proposed regulations in T.D. 9593 (6/18/12) and REG-141832-11 (6/18/12) that clarified how the portability rules should be applied. The IRS has now finalized the proposed regulations and removed the temporary regulations, and made clarifying changes and revisions after consideration of practitioner comments.

The final regulations are effective on June 12, 2015.

Making the Portability Election

In order for a surviving spouse to take into account a DSUE amount, the executor of the estate of the deceased spouse must file an estate tax return, compute the DSUE amount on that return, elect portability of the DSUE amount on that return, and ensure that the return is filed by the due date (including extensions). The regulations require every estate electing portability of a decedent's DSUE amount to file an estate tax return within nine months of the decedent's date of death, unless an extension of time for filing has been granted.

If there is no executor, any person in possession of any property of the decedent may file the estate tax return on behalf of the estate of the decedent and, in so doing, elect portability of the decedent's DSUE amount, or, by complying with certain requirements, may elect not to have portability apply.

The regulations provide that a portability election is irrevocable once the due date (as extended) of the return has passed.

Computing the DSUE Amount

The regulations require that an executor include a computation of the DSUE amount on the estate tax return of the decedent to allow portability of that decedent's DSUE amount. A complete and properly-prepared return contains the information required to compute a decedent's DSUE amount.

Code Sec. 2010(c)(4)(A) and Code Sec. 2010(c)(4)(B)(i) and (ii) define the DSUE amount as the lesser of:

(1) the basic exclusion amount, or

(2) the excess of applicable exclusion amount of the last deceased spouse of the surviving spouse, over the amount with respect to which the tentative tax is determined on the estate of such deceased spouse.

Availability of Extension of Time to Elect Portability

A practitioner commenting on the temporary regulations requested that the final regulations address the availability of an extension of time under Reg. Secs. 301.9100-2 and 301.9100-3 to elect portability under Code Sec. 2010(c)(5)(A).

Reg. Sec. 301.9100-2(b) provides an automatic six-month extension of time for making certain statutory and regulatory elections if the return is timely filed. Because the portability election is deemed to be made by the timely filing of a complete and properly prepared estate tax return, the IRS notes this relief provision will not be helpful with regard to the portability election unless the return was not complete or properly prepared and that any insufficiency is corrected within six months from the unextended due date of the return.

The IRS notes that an extension of time under Reg. Sec. 301.9100-3 to elect portability may be available to estates that are under the value threshold described in Code Sec. 6018. Accordingly, the final regulations provide that an extension of time to elect portability may be granted to estates with a gross estate value below that threshold amount and thus not otherwise required to file an estate tax return.

OBSERVATION: As transitional relief in the wake of TRUIRJCA and ATRA, the IRS has published guidance in Notice 2012-21 and Rev. Proc. 2014-18 regarding the availability of an automatic extension of time for executors of certain estates under the filing threshold of Code Sec. 6018(a) to file an estate tax return to elect portability of an unused exclusion amount. The IRS continues to receive, and continues to consider, requests for permanent extensions of this type of relief, but notes that such relief is not included in the final regulations.

Effect of Portability Election Where DSUE Amount is Uncertain

Another commenter on the temporary regulations requested that the final regulations address whether an estate can make a "protective" election if a DSUE amount is not reflected on an otherwise complete and properly prepared estate tax return at the time of its timely filing, but subsequent adjustments to amounts on the estate tax return would result in unused exclusion of that decedent.

For example, an executor files a complete and properly prepared estate tax return that shows a DSUE amount equal to zero and does not opt out of portability. At the same time, the executor also files a claim for a refund and subsequently, the estate becomes entitled to a deduction which reduces the estate tax and results in unused exemption.

The IRS notes that the executor in the example properly elected portability, and the recomputed DSUE amount will be available. The final regulations clarify that the computation requirement in Code Sec. 2010(c)(5)(A) will be satisfied if the estate tax return is prepared in accordance with the requirements of Reg. Sec. 20.2010-2(a)(7). Accordingly, the IRS concluded that there is no need for a protective election.

Requirement of a "Complete and Properly Prepared" Estate Tax Return

The temporary regs provided a special rule applicable to estates that are not otherwise required to file an estate tax return under Code Sec. 6018. For these estates, the executor does not need to report the value of certain property that qualifies for the marital or charitable deduction. The temporary regulations also included exceptions to the special rule.

A practitioner suggested that one exception was made unnecessarily broad by its reference to "another provision of the Code." The practitioner was concerned that, because the fair market value of a bequeathed asset determines the basis of that asset in the hands of the legatee, the value of all estate assets would have an impact on Code Sec. 1014, and, thus, all assets would have to be valued. In referring to value needed to determine an estate's eligibility, the IRS did not intend to include a basis determination under Code Sec. 1014. Accordingly, the language of Reg. Sec. 20.2010-2T(a)(7)(ii)(A)(2) has been clarified.

Special Rules for Qualified Domestic Trusts

The qualified domestic trusts (QDOT) rules in the temporary regs provide that the executor of a decedent's estate claiming a marital deduction for property passing to a QDOT must compute the decedent's DSUE amount in the same way as for any other decedent. However, because the estate tax payments made from the QDOT after the decedent's death are part of the decedent's estate tax liability, the earliest date such a decedent's DSUE amount may be included in determining the applicable exclusion amount is the date of the event that triggers the final estate tax liability of the decedent under Code Sec. 2056A.

OBSERVATION: Generally, this scenario occurs upon the termination of all QDOTs created by or funded with assets passing from the decedent or upon the death of the surviving spouse).

A practitioner expressed concern over this delay in the surviving spouse's ability to use the decedent's DSUE amount in circumstances where the surviving spouse becomes a U.S. citizen after the decedent's estate tax return is filed and after property passes to a QDOT.

Under Code Sec. 2056A(b)(12), the estate tax imposed under Code Sec. 2056A(b)(1) will cease to apply to property held in a QDOT if the surviving spouse becomes a United States citizen and either of the following requirements are met:

(1) the spouse was a resident of the United States at all times after the death of the decedent and before the spouse becomes a citizen of the United States, or

(2) no tax was imposed by Code Sec. 2056A(b)(1)(A) with respect to any distribution before the spouse becomes a citizen.

The IRS concluded that, if the surviving spouse of the decedent becomes a citizen of the United States and the requirements under Code Sec. 2056A(b)(12) and the corresponding regulations are satisfied so that the tax imposed by Code Sec. 2056A(b)(1) no longer applies, then the decedent's DSUE amount is no longer subject to adjustment and will become available for transfers by the surviving spouse as of the date the surviving spouse becomes a citizen of the United States. Accordingly, the final regulations make clarifying changes.

Availability of DSUE Amount by Surviving Spouse Who Becomes a Citizen of the United States

A practitioner requested that the final regulations allow a surviving spouse who becomes a U.S. citizen after the death of the deceased spouse to take into account the DSUE amount of such deceased spouse.

Because a surviving spouse who becomes a U.S. citizen is subject to the estate and gift tax rules of chapter 11 and 12 that apply to U.S. citizens and residents, the IRS believes it is appropriate that such a surviving spouse be permitted to take into account the DSUE amount available from any deceased spouse as of the date such surviving spouse becomes a U.S. citizen, provided the deceased spouse's executor has made the portability election. Accordingly, the final regulations include such a rule in Reg. Secs. 20.2010-3 and 25.2505-2.

Order of Credits

The IRS notes that the amount of the allowable credit in Code Secs. 2012 through 2015 can be determined only after subtracting the applicable credit amount determined under Code Sec. 2010 from the tax imposed by Code Sec. 2001. Accordingly, to the extent the applicable credit amount is applied to reduce the tax imposed by Code Sec. 2001 to zero, the credits in Code Secs. 2012 through 2015 are not available. The rule in Code Sec. 2010(c)(4) for computing the DSUE amount does not take into account any unused credits arising under Code Secs. 2012 through 2015.

Based on these considerations, the IRS concluded that no adjustment to the computation of the DSUE amount to account for any unused credits is warranted. Accordingly, Reg. Sec. 20.2010-2(c)(3) clarifies that eligibility for credits against the tax imposed by Code Sec. 2001 does not factor into the computation of the DSUE amount. (Staff Editor Parker Tax Publishing)

Disclaimer: This publication does not, and is not intended to, provide legal, tax or accounting advice, and readers should consult their tax advisors concerning the application of tax laws to their particular situations. This analysis is not tax advice and is not intended or written to be used, and cannot be used, for purposes of avoiding tax penalties that may be imposed on any taxpayer. The information contained herein is general in nature and based on authorities that are subject to change. Parker Tax Publishing guarantees neither the accuracy nor completeness of any information and is not responsible for any errors or omissions, or for results obtained by others as a result of reliance upon such information. Parker Tax Publishing assumes no obligation to inform the reader of any changes in tax laws or other factors that could affect information contained herein.

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