Portability allows for the transfer of a deceased spouse’s unused federal estate tax exemption amount to his or her surviving spouse. The main advantages to portability are the simplification of estate planning for married couples and the possibility of eliminating built-in gain on certain assets upon the death of the surviving spouse. Although there are benefits to portability, there are several potential disadvantages and traps in relying only on portability to plan for the imposition of federal estate tax.
Election Required for Portability. The ability to use your deceased spouse’s unused exemption amount is not automatic. Rather, the estate of the deceased spouse must timely file a federal estate tax return to report the remaining exemption and make the portability election, even when a return might not otherwise be needed.
Loss of Exemption Because of Remarriage. In order to prevent the accumulation of multiple exemption amounts, an individual may only use the unused exemption amount of his or her most recent deceased spouse. Any unused exemption amount accumulated from a previously deceased spouse will be lost upon the remarriage of the surviving spouse.
No Inflation Adjustment. The federal estate tax exemption that is transferred to your surviving spouse by your estate under portability is not adjusted for inflation. However, if a credit shelter trust is used to plan for the estate tax rather than portability, the assets held in that trust will pass free of estate taxes to your descendants regardless of how much the assets have appreciated in value since the date of the first spouse’s death.
No Creditor Protection. Assets devised directly to your surviving spouse and not held in trust are subject to the creditors of your surviving spouse. Alternatively, if a credit shelter trust is used to plan for the estate tax, the trust structure can offer important non-tax asset protection benefits for the deceased spouse’s assets.
No Multigenerational Planning. With proper planning and the use of a credit shelter trust with GST tax planning elements, it is possible to create a trust for your spouse, children and grandchildren that will be permanently exempt from the federal estate, gift and generation-skipping transfer (GST) tax for the life of the trust (360 years in Florida). Unfortunately, portability does not apply to the GST tax exemption. Accordingly, unless a credit shelter trust is used in your estate planning, the GST tax exemption of the first spouse to die will be wasted.
State Estate Taxes. Portability does not apply to any state estate tax that may be applicable at the time of your death. Generally, state estate tax is imposed on residents of jurisdictions with a state estate tax, and non-residents who own real property and tangible personal property, such as automobiles and art, in these jurisdictions. The result is that the surviving spouse’s estate is likely to incur a substantially greater state estate tax than when the first deceased spouse sheltered his or her exemption as with an estate tax credit shelter trust.
Change in the Tax Laws. If portability is repealed, an estate plan which relies on portability may not work as intended and may result in unintended estate tax consequences.
If you would like to discuss whether portability should be utilized in your estate plan, please speak with your estate planning attorney.