Running the Numbers

Doug H. Moy
June 18, 2008 — 1,627 views  
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Running the numbers to minimize or eliminate federal estate tax, generation-skipping transfer tax and/or state death tax ("transfer taxes") is important in designing and creating a practicable estate plan. But just running the numbers without consideration of how the estate owner holds legal title to his or her property is an errant waste of time and money. For husbands and wives, correct titling of property ownership goes hand-in-glove with determining transfer taxes. For example, property titled as joint tenants with right of survivorship (including tenants by the entirety with right of survivorship) ("JTWROS") by husband and wife means that, upon the death of the first spouse to die, one-half the fair market value of such property is includable in the decedent spouse’s gross estate [IRC § 2040(b)]. That one-half value passes to the surviving spouse by right of survivorship and, thus, qualifies for the unlimited federal estate tax marital deduction [IRC § 2056(a), (c)(5); Treas. Reg. § 20.2056(c)-1(a)(1) (Mar. 1, 1994)]. It may also qualify for a state inheritance, estate tax or death tax marital deduction. Hence, no federal estate tax is due on the value of such property includable in the decedent spouse’s gross estate passing to the surviving spouse. On the one hand, this may seem to be an advantage to the decedent spouse’s estate; however, indiscriminate application of the marital deduction may cause more property value passing from the decedent spouse’s estate to the surviving spouse via the marital deduction than is necessary to minimize or eliminate transfer taxes on the decedent spouse’s estate. In effect, indiscriminate use of the marital deduction may result in unnecessary additional transfer taxes being paid upon the subsequent death of the surviving spouse. This may be the result where the amount of marital deduction taken in the estate of the first spouse to die, when combined with the value of the surviving spouse’s gross estate, exceeds the surviving spouse’s available exemption amount upon his or her subsequent death.

This result can occur when the first spouse to die does not control the disposition of his or her property. Loss of dispositional control always results when property is titled as JTWROS. The paralyzing inflexibility of JTWROS causes legal title to vest by right of survivorship in the surviving co-tenant spouse (or others as co-tenants). If the co-tenant is the surviving spouse, then, the estate tax marital deduction must be taken in the gross estate of the first spouse to die—it is not optional [IRC § 2056(a); Rev. Rul. 59-123, 1959-1 C.B. 248], even if taking the deduction does not benefit the decedent spouse’s gross estate. If, on the other hand, upon the death of the first spouse to die, legal title to property is in the decedent spouse’s name (i.e., tenancy in severalty, as a tenant in common or titled in the name of the trustee of a revocable living trust), then, the decedent spouse’s federal estate tax applicable exclusion amount ("exemption amount") may be coordinated with the marital deduction to control the amount of property includable in the surviving spouse’s gross estate which may be subject to transfer taxes. In other words, the first decedent spouse can prevent his or her marital deduction from being overqualified at the expense of wasting his or her exemption amount. On a $2.0 million taxable estate, the federal estate tax credit equivalent of the $2.0 million exemption amount is $780,800!

Married heterosexual spouses in the eight (8) traditional community property states [Arizona, California, Idaho, Louisiana, New Mexico, Nevada, Texas and Washington] and those spouses resident in Alaska and Wisconsin, where married spouses may elect to treat their property acquired during marriage as community property [Alaska Stat. § 34.77.060(a) (Loislaw 1998); Wis. Stat. Ann. § 766.001(2) (Loislaw 1993)], may also be affected by holding title to their property as JTWROS. It is important to understand that community property per se is not a particular form of property ownership necessarily evidenced by an instrument of ownership; i.e., for example, in most cases, a deed to real property owned by husband and wife would not read, "John J. Doe and Susan S. Doe, husband and wife, as community property"; or "... husband and wife, as community property with right of survivorship." In this regard, the marriage is the community, meaning that all property acquired by husband and wife during the marriage is deemed, by state statute, to be community property, unless, of course, the spouses effect a separate property agreement in which they declare their community property interests to be their respective separate property interests.

On the other hand, each spouse may enter into marriage with his or her respective separate property and determine to effect a community property agreement in which the spouses declare that, henceforth, all of their respective separate property is transmuted (converted) into community property. In effect, the Agreement permits each spouse control over the disposition of his or her respective one-half vested community property interests. This means that, upon the death of the first spouse to die, the decedent spouse can direct his or her one-half vested interest in the community property to a nonmarital deduction trust (credit shelter trust) for the benefit of the surviving spouse. Generally, such a trust is funded with property included in the decedent spouse’s gross estate equal to the amount of the decedent spouse’s federal estate tax and state estate tax (or inheritance tax) exemption amount; presently, for example, the exemption amount for both federal estate tax and State of Washington estate tax is $2.0 million. The value of property not in excess of the exemption amount distributable to the credit shelter trust is not subject to federal estate tax in the first decedent spouse’s taxable estate and would not be includable in the surviving spouse’s gross estate for transfer tax purposes, provided the credit shelter trust has been correctly designed. If, upon the subsequent death of the surviving spouse, property in the credit shelter trust is continued in the trust for the benefit of, say, the married spouses’ children, then, the value of such property may continue to be sheltered from transfer taxes upon each of their subsequent deaths.

However, if, after effectuation of the community property agreement, the spouses determine to title their community property as JTWROS, then, upon the death of the first spouse to die, the decedent spouse’s one-half vested interest in the community property is includable in his or her gross estate and that one-half vested interest will pass to the surviving spouse by right of survivorship, qualifying for the estate tax marital deduction [Treas. Reg. § 2.2056(c)-1(b) (Mar. 1, 1994)], thereby, causing the first decedent spouse to lose dispositional control of the property. In other words, had the spouses not taken title to their community property as JTWROS, upon the death of the first of them to die, the decedent spouse would have been able to coordinate use of the marital deduction with his or her exemption amount, thereby, minimizing or eliminating transfer taxes on both spouses’ taxable estates. Thus, running the numbers can illustrate transfer tax savings that could be obtained—but only if the form of title ownership of the estate owner’s property is taken into account when running the numbers.

Doug H. Moy


Doug H. Moy is a nationally recognized author, consulting specialist, seminar instructor and educator. He has an undergraduate degree from Willamette University and a Masters degree from Washington State University. Since 1979, Mr. Moy has consulted to attorneys, tax practitioners and their clients, as well as assisted practitioners representing clients before the IRS Conference of Right and Appeals Division and Settlement Conference Negotiations. He is noted for his ability to communicate his unparalleled knowledge and experience to practitioners at all levels in his field of expertise; namely, estate/gift taxation and planning, with special expertise in living trusts; community property; lottery prize winnings; structured settlement trusts; extricating clients from abusive trust tax shelters; designing effective estate plans; and preparation of Form 706 Estate Tax Returns and 709 Gift Tax Returns. He offers particular assistance and exceptional skill designing creative, practical solutions to challenging and difficult estate planning situations.