Clients frequently have heard of the estate and gift tax, and have heard of the high exemption amounts.  The exemption is currently at a staggering $12.06 million, higher than it has ever been.  Many clients have also learned that for a married couple can double that exemption, so they have essentially $24 million combined. With these high exemption amounts, many clients ignore the estate tax or don’t believe it will be relevant for them.

However, it is important to recognize that a surviving spouse only gets the first spouse’s exemption by electing something called “portability.”  I’m going to talk about what portability, the process of electing it, and how it is beneficial even when your assets aren’t anywhere near the current exemption amount.  The recent article “It’s So Important to Elect ‘Portability’ For Your Farm Estate” from Ag Web Farm Journal describes it as well, specifically in the context of family farms.

When one spouse dies, the surviving spouse can choose to make a portability election. This means that any unused federal gift or estate tax exemption can be transferred from the deceased spouse to the surviving spouse.  This is why the second spouse may have $24 million.  They are electing to keep the first spouse’s exemption of $12 million, and have their own $12 million exemption.   It is critical to recognize, however, that it is not automatic, and that is where most married couples make a mistake.

The process of electing portability involves filing an estate tax return with the IRS.  In most portability cases, no taxes are due, but you must file a form to obtain the exemption.  Essentially, the process involves filing the return to show the IRS what the decedent’s exemption was, and that the surviving spouse will be entitled to it in the future.  In many cases where you are only filing to elect portability, the IRS has relaxed standards for describing and valuing assets which go to a surviving spouse.  They do this because in those scenarios, they recognize you are only filing to elect portability, and that the value of assets won’t be relevant as no tax will be due.

The time frame for filing the return varies based upon the case, but you should act quickly.  The standard due date is 9 months from death, although in some cases it can be extended up to 2 years from death.  That is especially helpful where the surviving spouse didn’t speak to an accountant or lawyer after the first spouse died, and they only learn about the benefit of portability long afterwards.

Before portability was an option, spouses each owned about the same amount of assets, or the amount of assets which would use up each other’s exemptions. They would then leave as much as possible to a trust for the spouse and potentially other family members designed to use as much of the first exemption as possible, because if you didn’t use it, it was lost.  This planning made sense, but also required more complicated estate planning that got you the same result as portability does now.  Once portability arrived we were able to simplify many estate plans that no longer needed this complexity of planning.

Here’s an example. A married couple owns assets jointly and their net worth is about $14 million. When the husband dies, the wife owns everything. However, she neglects to speak with the family’s estate planning lawyer. No estate taxes are due at this time because of the unlimited marital deduction between the two spouses.

However, when she dies, she owns $14 million dollars (or more based upon growth) and dies with an exemption of $12 million.  Her estate will pay the estate tax on the difference between the exemption and her assets.  That tax bill is about $800,000.

If the wife had filed an estate tax return electing portability when her husband died, her exemption would be $24 million, and no tax would be due.

Now, I said earlier that this will apply to more than just people with $24 million dollars.  The reason is the current exemption amount is set to return to its prior level of $5 million dollar indexed to inflation in 2026.  So, let’s go through that scenario again with updated, more realistic numbers.

Husband and wife own $14 million, everything goes to the wife when husband dies and wife doesn’t elect portability.  When she dies in 2026, her exemption is $6 million (this is an estimate based upon inflation).  So, the tax will apply on the difference between her $14 million and the $6 million dollar exemption.  That is roughly $3.2 million in tax.

With the exemption as high as it is now and with the expectation of it lowering in the future, portability is critical.  If husband died when the exemption was $12 million and wife elected portability, she would get both his $12 million exemption and her own of $6 million dollars.  The combined exemption of $18 million exceeds her $14 million in assets, and no tax is due.  It saved over $3 million dollars.

Hopefully this last scenario explains how timely this is.  We raise this issue in nearly every estate administration of a married couple as electing portability now is nearly perfect insurance against future estate tax.  It is worth considering in any case where the combined assets will be close to one person’s exemption, especially where more volatile assets such as insurance, businesses and real estate are involved as the market may value them higher than expected at the time of death.

An experienced estate planning attorney can work with the family to evaluate their tax liability and see if portability will be sufficient, or if other tools are necessary.  It is also worth discussing this with an attorney if you recently lost a spouse and want to take advantage of portability.  If estate tax is a concern for you, you may also want to review this article.  https://galligan-law.com/practice-areas/estate-tax-planning/  

Reference: Ag Web Farm Journal (April 18, 2022) “It’s So Important to Elect ‘Portability’ For Your Farm Estate”