A QDOT trust can be utilized if you are exposed to the estate tax as someone who is married to a citizen of another country. Before we look at the specifics, we should explain the estate tax parameters so that you can determine whether or not you are facing exposure.
Credit or Exclusion
There is a federal estate tax exclusion or credit. This is the amount that you can transfer before the estate tax would become applicable. The tax would be applied on the portion of the estate that exceeds the amount of the exclusion.
During the current calendar year, the federal estate tax exclusion stands at $5.43 million. This is the figure for the rest of 2015, but next year you may see a somewhat higher number, because there are annual adjustments to account for inflation.
We should point out the fact that the maximum rate of the federal estate tax is a rather robust 40 percent.
Unlimited Marital Deduction
The federal estate tax does not apply to asset transfers between spouses. You can use the unlimited marital deduction to transfer unlimited assets to your spouse free of taxation. The $5.43 million exclusion would be used to transfer assets tax-free to anyone other than your spouse, assuming your spouse is a citizen of the United States.
The unlimited marital deduction is not available to foreign citizens. This is because the Internal Revenue Service wants to collect something at some point in time. If you were to use the unlimited marital deduction to leave a large sum of money to your citizen spouse tax-free, your family would not be off the hook. The estate tax would still be a factor after the death of your surviving spouse.
On the other hand, the IRS could be out of luck if a non-citizen spouse could use the unlimited marital deduction. If this was possible, the surviving spouse could return to his or her country of citizenship, and the tax man could be left empty-handed.
If you are married to a citizen of another country, and you are exposed to the estate tax, you can gain estate tax efficiency through the creation of a QDOT trust. The acronym stands for a qualified domestic trust.
After your passing, the trustee could distribute the earnings from the QDOT trust to your spouse, and these distributions would not be subject to the estate tax. However, regular income taxes would be applicable.
You could allow the trustee to distribute portions of the principal under some circumstances, but any such distributions would be subject to the estate tax.
After the death of your surviving spouse, secondary beneficiaries of your choosing would assume ownership of the remainder in the trust, and these transfers would be subject to the estate tax.
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