I received a phone call recently from a potential client who asked about reviewing her father’s estate planning documents, and whether probate should have been opened when her mother died 2 years ago (2015). Her parent’s remaining estate was worth roughly $6.7M.
Before portability, estate planners traditionally set up plans with a marital share and credit shelter (or family) trust and advised dividing assets somewhat equally so each spouse could use his estate tax exclusion. If one spouse with few assets died, his unused estate tax exclusion was wasted and the surviving spouse’s ability to transfer assets was limited to his single exclusion.
After portability became effective on January 1, 2011, the deceased spouse’s unused exclusion (“DSUE”) could be “ported” to the surviving spouse for use in making gifts and sheltering his own estate. The 2017 exclusion is $5.49M, meaning a married couple can shield $10.98M from federal estate and gift taxes. This can be done by creating two roughly equal trusts holding $5.49 million in assets, or by using portability.
To elect portability at the first death, the personal representative (“PR”) of the decedent (who is not necessarily always the surviving spouse, especially in second marriages) must file federal estate tax return Form 706 electing portability on the return. Form 706 is due 9 months after death and an automatic 6-month extension is available.
Automatic Extension under Rev. Proc. 2014-18
Recognizing that portability was a new concept to taxpayers, the IRS issued Rev. Proc. 2014-18, temporarily providing an automatic extension to file a portability 706 for estates of persons who died between December 31, 2010, and December 21, 2013.
Extensions by Private Letter Ruling under Treas. Reg. § 301.9100-3
If no administration happened in the scenario described above, including no funding of a testamentary credit shelter trust to use the mother’s exemption, then the potential client might discuss with her father and siblings the wisdom of investing in the preparation of a portability 706 by extension. If the caller’s father dies with $6.7M in his estate, this would exceed the 2017 exemption of $5.49M by $1.21M. His estate would be subject to a 40% tax on the $1.21M, or $484,000.
Since the mother died 2 years ago, the filing deadline for filing a 706 (15 months) have passed. In order to obtain an extension, an estate must be opened for the father. The personal representative (“PR”) of father’s estate may then request a private letter ruling (“PLR”) extending the deadline for filing a portability 706 under Treas. Reg. § 301.9100-3, which provides that (1) “the taxpayer acted reasonably and in good faith,” and (2) “the grant of relief will not prejudice the interests of the Government.”
The IRS identifies the following reasonable and good faith explanations for failing to file the portability 706:
- Requests relief under this section before the failure to make the regulatory election is discovered by the Internal Revenue Service (IRS);
- Failed to make the election because of intervening events beyond the taxpayer’s control;
- Failed to make the election because, after exercising reasonable diligence (taking into account the taxpayer’s experience and the complexity of the return or issue), the taxpayer was unaware of the necessity for the election;
- Reasonably relied on the written advice of the Internal Revenue Service (IRS); or
- Reasonably relied on a qualified tax professional, including a tax professional employed by the taxpayer, and the tax professional failed to make, or advise the taxpayer to make, the election.
It is important to note that the IRS does not consider hindsight to be a reasonable and good faith explanation for failing to file a portability 706: “If specific facts have changed since the due date for making the election that make the election advantageous to a taxpayer, the IRS will not ordinarily grant relief.”
What does requesting an extension to file a portability 706 involve?
- A detailed affidavit describing the events that led to the failure to make a valid regulatory election and to the discovery of the failure;
- The cost of opening a state probate; the IRS filing fee for requesting a Private Letter Ruling ($9,800, before February 2, 2017, or $10,000, after February 2, 2017); attorney fees for preparation of the PLR request;
- Waiting on resolution from the IRS, which could take a few months.
In this scenario, the best course of action depends on many factors, including whether or not a credit shelter trust was funded at the father’s death. Although it might still be possible fund the credit shelter trust, if that is not the case, investing the effort in obtaining a PLR allowing a late 706 filing might be worth the $484,000 tax savings. Please call our Denver estate planning attorneys if you would like to discuss whether filing a portability 706 will save your family estate taxes.