Ethan R. Okura
Hawai‘i Herald Columnist
In last month’s column, I introduced you to the basics of international estate planning. I explained the Internal Revenue Service’s definitions of a U.S. citizen, a non-resident alien and a resident alien. The definition of a resident alien is different for income tax purposes and for gift and estate tax purposes, even though both taxes go to the same IRS.
In this month’s column, I’d like to go into greater detail about some of the gift and estate tax problems facing a U.S. citizen with a non-U.S. citizen (or alien) spouse. I mentioned in last month’s column that there are major potential problems with transferring assets between a U.S. citizen spouse and a non-U.S. citizen spouse, regardless of whether you do it during your lifetime or at your death. I stated that you can only give $154,000 per year to an alien spouse, even if he or she is a U.S. resident or has a green card, which is almost true except for the typo in that statement. The annual gift tax exclusion for gifts to a non-U.S. citizen spouse in 2019 is actually $155,000, not $154,000.
So what problems can arise with a spouse who is not a U.S. citizen?
Gifts to an Alien Spouse
If you make any large gifts to your non-U.S. citizen spouse, such as adding his or her name to your bank account or to the deed on your home where half the net value of your home is worth more than $154,000, you have made a taxable gift that requires that you file a gift tax return and possibly pay a gift tax. Interestingly, the position of the IRS is that every time a transfer is made, it is regarded as a new gift, even if it is the same property going back and forth. So, if you add your non-U.S. citizen spouse to the title of your home, as in the above example, and then later take your spouse’s name off the deed (perhaps to refinance a mortgage only in your name), and then later put your non-U.S. citizen spouse back on the title to the property, that second transfer constitutes another gift, for which you might owe a gift tax again . . . on the exact same property being transferred between the two of you. If you do this enough times, you could use up your entire lifetime gift and estate tax exemption and end up losing the entire value of the property in gift tax just by transferring it back and forth between spouses, in which at least one spouse is not a U.S. citizen. This applies whether your alien spouse is a resident or not.
Estate to Alien Spouse
When you pass away and leave assets to your spouse at your death, there is an unlimited marital deduction — if your spouse is a U.S. citizen. This means that you could be very wealthy and leave more than the $11.4 million exemption amount to your U.S. citizen spouse and neither you nor your spouse would have to pay any estate tax on the entire amount, even if it’s billions of dollars. Unfortunately, if your spouse is not a U.S. citizen, there is no marital deduction for your estate — even if your spouse is a resident alien.
Thankfully, there is a solution to this problem. If your spouse is not a U.S. citizen, you can create what is called a “Qualified Domestic Trust” (also called a “QDOT”) and leave your assets in the trust for the benefit of your non-citizen spouse. This will enable your estate to qualify for the marital deduction on all assets going into the QDOT. The purpose of the QDOT law is to allow the alien spouse to qualify for the marital deduction, while making sure that he or she does not leave the country with those inherited assets and escape paying estate taxes on them.
The basic requirements of a QDOT are: 1) The trustee must be a U.S. citizen; 2) if the QDOT assets are greater than $2 million, then one of the trustees must be a U.S. bank; 3) all of the QDOT income should be distributable to the surviving non-U.S. citizen spouse; and 4) any trust principal distributed from the QDOT is subject to estate taxes, as if it were in the deceased spouse’s estate.
In this column, I primarily addressed problems with giving assets to a non-U.S. citizen spouse. In a future column, I’ll address the problems of a non-resident alien transferring U.S. situs assets. There are some strange differences between gift tax rules and estate tax rules, depending on what kind of assets are being transferred. I’ll also discuss some of the best ways a non-resident alien can hold and transfer U.S. assets while legally avoiding gift and/or estate taxes.
© OKURA & ASSOCIATES, 2019
Honolulu Office (808) 593-8885
Hilo Office (808) 935-3344
Ethan R. Okura received his doctor of jurisprudence degree from Columbia University in 2002. He specializes in estate planning to protect assets from nursing home costs, probate, estate taxes and creditors.
This column is for general information only. The facts of your case may change the advice given. Do not rely on the information in this column without consulting an estate planning specialist.