Part of a Series on Planning for Foreign Nationals
Individuals who are residents of the Usa but who're not citizens (commonly referred to as “resident aliens”) are subject to the same estate and gift tax rules as U.S. citizens. However, there are two important distinctions to consider when you are looking at transfers between spouses who are not both U.S. citizens.
First, direct gifts and direct bequests to a non-citizen spouse do not qualify for the unlimited marital deduction. Instead, a citizen spouse may make a “present interest” gift as high as $152,000 (for 2019 ) per year to the non-citizen spouse as an “annual exclusion” gift under Section 2523(i)(2), or could use his/her lifetime exemption (currently $11.18 million for 2019 ) to shelter a transfer from gift or estate taxes.
Second, bequests in trust that will otherwise be eligible for a the marital deduction (e.g., Qualified Terminable Interest Property (QTIP) trusts) will not qualify when the beneficiary spouse is not a U.S. citizen. The only exceptions to this rule are if: (1) the surviving spouse becomes a U.S. citizen before the estate tax return is filed or (2) the property passes to a qualified domestic trust (QDOT) for that advantage of the surviving spouse.
The chart below generally illustrates the major similarities and differences between estate planning for a U.S. citizen compared to a non-U.S. citizen.
|Transfer to Non-citizen Spouse||Transfer to Citizen Spouse|
|Annual Gifts to Spouse||$152,000||Unlimited Marital Deduction|
|Annual Exclusion Gifts||$15,000||$15,000|
|Lifetime Exemption Gifts||$11.18 Million||$11.18 Million|
|Unlimited Marital Deduction at death||Not available. Must establish QDOT||Yes|
*During 2019 , taxpayers have an eternity exemption of 11.18M, indexed for chained inflation. Effective January 1, 2026, the lifetime exemption will be reduced to approximately $6.2M-$6.5M, based on inflation adjustments.
For planning purposes, it is important to remember that the citizenship of the spouse who'll be the beneficiary of a marital trust may be the key for determining whether a QDOT or other planning technique should be considered to delay estate taxes. For example, inside a situation where a husband is really a U.S. citizen and the wife isn't, the husband's will or living trust should contain QDOT provisions, whereas the wife's will or trust can offer for a typical marital trust, or QTIP trust, to receive the unlimited marital deduction.
What is a Qualified Domestic Trust (QDOT)?
A QDOT is really a statutorily defined trust allowing married couples with at least one non-citizen spouse to make the most of the marital deduction while ensuring that estate taxes will be paid on the assets left to the non-citizen spouse.1
The QDOT, however, works differently from the typical QTIP trust. Whereas a QTIP trust for a citizen spouse allows for the deferral of estate taxes entirely until the surviving spouse's death, the QDOT rules require the payment of estate taxes any time a distribution of trust principal is made throughout the surviving spouse's lifetime (subject to an exception for “hardship” distributions).2 Distributions of income aren't subject to estate taxes, but any principal left in the QDOT at the surviving spouse's death will be subject to estate taxes.3
The requirements for a QDOT trust, set forth in Section 2056A and the corresponding Regulations, are as follows:
- Have a minimum of one U.S. trustee (a U.S. citizen or a U.S. corporation);
- Satisfy the overall marital deduction requirements of U.S. estate tax law (e.g., qualified terminable interest rule of Section 2056; during spouse's lifetime, only beneficiary is spouse; all income paid to spouse a minimum of annually; and power to compel trustee to invest to create income.)
- Require decedent's executor to create an election on decedent's estate tax return to treat the trust as a QDOT;
- Prohibit distributions from trust unless the trustee has got the to withhold U.S. estate taxes from such distributions; and
- In certain circumstances, need a bank to serve as the U.S. trustee or require the U.S. trustee to furnish a bond or letter of credit.4
The Flexible Alternative to a QDOT: The Irrevocable Life Insurance Trust
Because the requirements of a QDOT are complex and may not provide a true deferral of estate taxes if the non-citizen surviving spouse needs principal distributions during his/her lifetime, a spousal lifetime access trust (SLAT) funded with life insurance around the life of the citizen spouse can provide greater flexibility and liquidity for that non-citizen spouse and be drafted and administered within the same way for non-citizens as U.S. citizens. In this manner, life insurance helps transfer assets from the citizen spouse to the non-citizen spouse without the restrictions of the QDOT.
Importantly, use of a SLAT funded with life insurance can also provide supplemental income for a non-citizen spouse and access to cash value throughout the grantor's lifetime while keeping all of the trust assets outside the taxable estate. Moreover, whenever a rider is included on the life insurance policy to indemnify the spousal beneficiary for chronic illness or long-term care expenses paid for the citizen spouse, the trust could be powerful.
1 These provisions attempt to prevent assets from leaving the U.S. at the death from the citizen spouse. Without special restrictions, a non-citizen spouse could leave the country with a bequest or gift without the U.S. having an opportunity to collect tax around the transfer.
- IRC §2056A(a). The estate tax paid on distributions will be determined while using rate of tax in effect at the decedent's death.
3.The surviving spouse's estate exemption generally cannot be used to shelter QDOT assets from estate tax.
4.Treas. Reg. §20.2056A-2(d)(1).