Pros and Cons of Portability

The Tax Relief, Unemployment Insurance Reauthorization, and Job Creation Act of 2010 introduced the concept of portability of the basic exclusion amount between spouses as an additional means of avoiding ill consequences from over-qualification of the marital deduction. For years after 2010, the estate of the first spouse to die can elect to “port” the unused basic exclusion amount of the deceased spouse to the surviving spouse. In theory, therefore, over-qualification of the marital deduction can now be avoided by making a portability election in the estate of the first spouse. Because none of the first spouse’s basic exclusion amount was used due to the marital deduction, if a portability election is made, the decedent’s entire $12.06 million credit is available to the surviving spouse’s estate. This results in the survivor having $24,120,000 of applicable exclusion amount and (ignoring any increases or decreases in the basic exclusion amount at the death of the survivor) therefore no estate tax liability. The amount of exclusion ported from the deceased spouse’s estate is known as the DSUE.

At first glance, making a portability election might seem to be an easy choice, and in many cases that may be so. In the real world, however, whether to make the election is a much more complex decision.

Observation. Even with the simplified rules, preparation of Form 706 to elect portability is not a simple task. Practitioners who are not familiar with preparing Form 706 should be cautious in doing so. Use of appropriate return preparation software rather than fillable PDF forms is recommended.

Pros of Portability

• The election can preserve the basic exclusion amount of the first spouse to die when that would otherwise be wasted as a result of all assets that pass to the surviving spouse qualifying for the marital deduction, thereby reducing the decedent’s taxable estate to zero.
• In the event of a decrease in the basic exclusion amount in future years, the survivor’s applicable exclusion amount will include the potentially higher DSUE of the deceased spouse.
• In the event all assets are left to the surviving spouse and a portability election is made, there is a double basis step up: half the value of the assets on the death of the first spouse and all the assets on the death of the second. There will then be the combined applicable exclusion amount of the two spouses against any tax from inclusion of all assets in the surviving spouse’s estate.

Cons of Portability

• Even with simplified valuation rules for marital and charitable deduction assets, preparing the Form 706 requires time and expense. If there are assets ineligible for simplified valuation, the costs could increase significantly.
• The “forever audit” rule for the estate of the deceased spouse means their Form 706 must be carefully prepared and all substantiating documentation be retained and accessible indefinitely. Failure to do so can result in loss of the DSUE.
• The continued use of credit shelter trusts may be desirable for several reasons, such as asset protection; removing future appreciation from the surviving spouse’s estate; in the case of second marriages; and state death tax planning.
• While the deceased spouse’s basic exclusion amount can be ported, their GSTT exemption amount cannot.
• The DSUE is not indexed for inflation.
• If the surviving spouse remarries and their new spouse predeceases them, they will have lost the DSUE of the first spouse because the DSUE is limited to that of the last deceased spouse.
• In the case of second marriages and blended families, there may be conflict over costs associated with a portability election that favors heirs of the surviving spouse.
• It is likely that the issue of portability elections will increasingly be addressed in prenuptial agreements.

Practitioner Planning Tip. Practitioners should determine whether there is a post-2010 prenuptial agreement before recommending a portability election. If there is one, consider getting a legal opinion of its effect, if any, on the decision to port.

Sources:

• Tax Relief, Unemployment Insurance Reauthorization, and Job Creation Act of 2010, PL 111-312.
• Treas. Reg. §20.2010-2(a).

This is a reprint from the 2022 University of Illinois Federal Tax Workbook, Volume B, Chapter 4: Tax Considerations in the Distribution of Estate Assets, written by Kenneth Wright. To read more about portability and some of the more common and important basis rules affecting property distributed from a decedent, the Federal Tax Workbook is available for purchase.