When a person dies in the US or as a US citizen, anywhere, an often lengthy estate administration process begins to transfer the assets of the decedent to their heirs or other beneficiaries. Estate administration addresses the resolution of the transfer of assets both in and out of probate. Probate is the process to transfer assets to heirs and beneficiaries regardless of whether the decedent died with a Last Will and Testament. Therefore, the administrator of the estate, usually an executor or personal representative must clear all debts of the decedent, file all taxes, and administer all assets properly to ensure efficient and accurate distribution of all assets. Especially in cases where the decedent has a surviving spouse, estate administration may be oversimplified and omit certain critical steps that can deplete the estate in the future or worse, cause a breach of fiduciary duty by the personal administrator of the estate, who is often the surviving spouse. Three common errors that occur in the estates of decedents with illiquid assets, business interests, and foreign property and beneficiaries include the failure to file the estate tax return, undervaluing or overvaluing the global assets of the decedent and not accounting for tax implications of a non-citizen spouse beneficiary.
1. Failing to file a Federal Estate Tax Return, Form 706, For Non-Taxable Estates During Estate Administration
The Federal Estate Tax Return, Form 706, must be filed for all taxable estates. Taxable estates are estates whose value exceeds the basic exclusion amount under Section 2001. This amount is $10 million (adjusted for inflation) until January 2026, after which it reverts to $5 million (adjusted for inflation). US citizens as surviving spouses of decedents subject to US estate taxes have an unlimited marital deduction which defers any estate tax on the estate to the transfer at the surviving spouse’s death. The Form 706 should be filed for domestic estates to reflect this deduction and ensure the assets are properly valued and accounted for. However, more importantly, the Form 706 provides for a Deceased Spouse Unified Credit (DSUE), which allows for the surviving spouse to elect on the deceased spouse’s Form 706 to carryover the deceased spouse’s unused unified credit, or effectively their unused exclusion amount. Therefore, if a person died leaving an estate of $3 million and the exclusion was $10 million, by making the election, the surviving spouse would benefit from an additional $7 million exclusion in their estate. The DSUE is subject to some exceptions and conditions but is generally applicable to all US citizen spouses.
2. Completing estate administratin without obtaining estate tax appraisals of all business interests and property globally
Estate administration goes beyond probate and regardless of whether the Estate Tax Return is filed, the fiduciary responsible for administering the estate much have a complete picture of the value of all assets. For Estate Tax Returns, the standard is fair market value, that is, the value at which a willing buyer would buy the asset from a willing seller, in an arms length transaction as of the date of death, generally. In addition to most probate proceedings requiring an inventory with values, obtaining valuations from qualified appraisers, whether for real estate, intangibles, or business interests, can prevent unnecessary disputes over whether the estate assets were divided properly between beneficiaries.
Further, even where estate planning may have placed most or all assets in trust to avoid the probate process, valuations may be necessary for ensuring that values of assets are reported correctly on the Estate Tax Return. A particular challenge is that the estate of a decedent must report all assets, held anywhere, globally. With partial interests in assets, especially business interests, obtaining financial information and details for valuation purposes can be especially difficult where the interests are held abroad. Retaining a private investigator with knowledge working with global assets discovery, especially where assets are held in countries with a strained relationship with the U.S. can be helpful or at least provide adequate evidence to support the due diligence steps taken by the fiduciary to ascertain the assets in an estate.
3. Splitting assets equally with a non-citizen surviving spouse for tax purposes
Determining whether an estate tax return is required often begins with an estimate of the net value of the estate. Without a proper appraisal accounting for all assets, globally, and to all extent held creates a fundamental issue with potential undervaluation of the assets. However, the issue is further complicated in instances where the beneficiary is an non-citizen spouse. Under U.S. tax law, a spouse of the decedent is entitled to the unlimited marital deduction, so long as, the surviving spouse is a U.S. citizen. This unlimited deduction on all lifetime transfers and transfer as death from a spouse does not apply where the spouse is a permanent resident, even though the permanent resident spouse is entitled to the full basic exclusion amount for estate tax purposes.
Additionally, assets held jointly with a surviving spouse, for estate tax purposes is subject to an equal division in the allocation of the value of the asset to the decedent which can lower the amount of the estate attributed to the decedent and the surviving spouse. However, for a non U.S. citizen spouse, even where the spouse is a permanent resident, the entire value of the asset is attributed to the deceased spouse which can result in additional post-mortem planning needs (such as a Qualified Domestic Trust (QDOT)) to prevent immediate estate tax due on the portion passing to the surviving spouse.
While the loss of a spouse may not seem complicated for estate administration purposes, especially where all assets pass to the surviving spouse, the location, extent, and nature of the assets owned by the deceased spouse along with the citizenship and residency status of the surviving spouse can create significant underreporting or non-filing from the IRS. These penalties can be eliminated by proper valuation and investigation of all assets during an estate administration and even where no estate tax return is required, a valuation may reveal that the filing of the estate tax return would provide a windfall with an increased tax exclusion allocation to the surviving spouse’s estate.
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