Since assets in an estate equal to the exemption amount are exempt from estate taxes ($5.49 million per person for decedents dying in 2017), a married couple can use their exemptions to avoid tax on up to double the exemption amount ($10.98 million). An effective way to maximize the advantages of the exemption is to use Portability.
In simple terms, portability of the federal estate tax exemption between married couples means that if the first spouse dies and the value of the estate does not require the use all of the deceased spouse’s federal exemption from estate taxes, then the amount of the exemption that was not used for the deceased spouse’s estate may be transferred to the surviving spouse’s exemption so that he or she can use the deceased spouse’s unused exemption plus his or her own exemption when the surviving spouse later dies.
Let’s look at an example without the use of Portability: Mr. and Mrs. Jones have a combined estate of $12 million. At Mr. Jones’ death in 2017, all of his assets pass to Mrs. Jones — tax free because of the marital deduction. Mr. Jones’ taxable estate is zero. Shortly thereafter, and still in 2017, Mrs. Jones dies, leaving a $12 million dollar estate. The first $5.49 million is exempt from estate tax, but the remaining $6.51 million is subject to $2,604,000 in taxes.
The problem? Mr. and Mrs. Jones took advantage of the exemption in only one estate.
Let’s look at an example where Portability is used: Assume Mr. and Mrs. Jones have a net worth of $12,000,000. Mr. Jones dies first and the federal estate tax exemption is $5,490,000 on the date of Mr. Jones’ death, and portability of the estate tax exemption between spouses is in effect:
As above, when Mr. Jones dies his estate will not need to use any of his $5,490,000 estate tax exemption since all of the assets are jointly titled and the unlimited marital deduction allows for the automatic transfer of Mr. Jones’ share of the joint assets to Mrs. Jones by right of survivorship and without incurring any federal estate taxes. Assume that at the time of Ms. Jones’ later death the federal estate tax exemption is still $5,490,000, the estate tax rate is 40%, and Sue’s estate is still worth $12,000,000.
Enter portability of the estate tax exemption – Using the concept of portability of the estate tax exemption between spouses, under these facts Mr. Jones’ unused $5,490,000 estate tax exemption will be added to Mrs. Jones’ $5,490,000 exemption, in turn giving Mrs. Jones a $10,980,000 exemption. Since Mrs. Jones has “inherited” Mr. Jones’ unused estate tax exemption and she can pass on $10,980,000 free from federal estate taxes at the time of her death, Mrs. Jones’ $12,000,000 estate will owe $408,000.
$12,000,000 estate – $10,980,000 exemption = $1.02 taxable estate
$1.02 taxable estate x 40% estate tax rate = $400,000
Thus, portability of the estate tax exemption will save the heirs of Bob and Sue about $2,190,000 in estate taxes.
If you’re considering using Portability to minimize or reduce federal estate taxes after your death, be sure to work with an experienced Estate Planning Attorney.