Generally, transfers between spouses are free of federal estate and gift taxes, provided that the recipient-spouse is a U.S. citizen. These tax-free transfers are authorized under the so-called “marital deduction” regulations of the applicable federal gift and estate tax laws.
Where the recipient-spouse is not a U.S. citizen, the marital deduction for estate and gift taxes is eliminated. The deceased spouse’s estate will be taxed on the value of property left to a non-U.S. citizen spouse in excess of the deceased spouse’s available estate tax exemption, unless special language is included in the deceased spouse’s Last Will and Testament or Revocable Living Trust or a special tax election is made at the deceased US citizen spouse’s death.
For example, Husband (H) and Wife (W) are a married couple. H is a U.S. citizen. H leaves all of his property that he owns at his death to W. If W is a U.S. citizen, then H’s estate is not liable for any estate taxes. However, if W is not a U.S. citizen, H’s estate will be responsible for the estate taxes imposed on the value of the property passing to W in excess of the estate tax exemption amount.
In the case of lifetime transfers to a non-citizen spouse, the normally unlimited marital deduction is restricted for federal gift tax purposes. In that case, an individual may transfer up to $133,000 annually (as of 2009) to a non-citizen spouse without gift taxes being imposed, provided the gift would otherwise qualify for the marital deduction (for example, a gift of a future interest in property would not qualify).
For example, in 2009 H transfers property valued at $500,000 to his wife, W, a non-U.S. citizen. The transfer to W is fully reported on H’s 2009 gift tax return. However, gift taxes are only paid on $367,000 – the portion that exceeds the $133,000 exemption.
The conclusion, as it pertains to many of our clients, is that there may be significant consequences of giving property to a non-citizen spouse, both at death and during life. If you are, or are married to, a non-U.S. citizen spouse, then special estate planning is needed to minimize the estate and gift taxes your estates will pay.