Nearly a year ago, on June 26, 2015, the U.S. Supreme Court ruled in Obergefell v. Hodges, delivering a historic decision in favor of State recognition for same-sex marriage. Exactly two years prior to this decision, in United States v. Windsor, the U.S. Supreme Court struck down the constitutionality of Section 3 of the Defense of Marriage Act (DOMA), which defined marriage for federal purposes as existing only between one man and one woman.
“In its most basic terms, recognition of same-sex marriage equates to the simple fact that a spouse is now a spouse, irrespective of gender, in the eyes of the law,” commented McManus. “Today, there are opportunities and protections within reach for same-sex couples that were unavailable during most of American history.”
Recently, during a conference call with clients, McManus & Associates Founding Principal John O. McManus shed light on the far-reaching effects of these Supreme Court decisions.
Top 10 Tax and Estate Planning Considerations for Same-Sex Couples
- Gender-blind: First and foremost, when discussing the changes born of the recognition of same-sex marriage, the overarching theme is that there is no need to draft estate planning documents any differently for same-sex couples. In the eyes of the federal and state governments, same-sex and opposite-sex married couples are afforded the same tax benefits. Whether a Will was executed before the date of Obergefell (6/26/15) makes no difference. The law that applies is the law at the date of the Testator’s death. Pursuant to Obergefell, states MUST recognize same-sex marriage.
- Unlimited Marital Deduction: Same-sex couples that marry are eligible to take advantage of the unlimited marital deduction for federal estate and gift tax. Prior to Obergefell, same-sex couples had to rely on their applicable exclusion amount with regard to providing for the surviving spouse. It is important for same-sex couples to review with their wealth planning and tax advisors any existing estate planning in order to best utilize the tax-saving vehicles available to them.
- Portability: In addition to the unlimited marital deduction, the surviving spouse is entitled to the portability provision under federal estate and gift tax law. Pursuant to the portability provision, a surviving spouse may preserve, and thereafter utilize, any portion of the deceased spouse’s unused applicable exclusion amount. One benefit of portability is to allow the surviving spouse to make tax-free gifts in order to reduce the estate tax owed upon the survivor’s death. For more information on portability, please see an in-depth discussion of the top 10 possibilities of portability: https://mcmanuslegal.com/2015/10/educational-focus-series-top-10-possibilities-of-portability/.
- Gift Splitting: Each individual is given the right to make gifts on a tax-free basis for federal gift and generation skipping transfer tax. The annual exclusion amount is currently $14,000. Now same-sex couples can enjoy the benefits of gift splitting, whereby one spouse can gift from their own assets, with the consent of the other spouse, in order to utilize both of their annual exclusion amounts (currently $28,000 maximum to any individual) resulting in the gifting spouse’s applicable lifetime gift tax exemption amount remaining intact. Generally, gift splitting requires the filing of a Form 709 Gift Tax Return; however, if the split gifts total $28,000 or less to each donee, only the donor spouse is required to file a gift tax return.
- Beneficiary Designation of Retirement Benefits:
- Retirement account assets of a deceased same-sex spouse can now be “rolled over” into the surviving spouse’s account without the requirement of a mandatory minimum distribution or lump sum distribution. This is a positive development because prior to the recognition of same-sex marriage this roll-over was not possible.
- With regard to an ERISA covered plan, the Windsor decision made it possible for the same-sex spouse of a participant in the plan to automatically be the beneficiary. The participant is now required to obtain consent from his or her spouse if that spouse is not the desired beneficiary of the plan.
- All state-level employment benefits should be reviewed and updated with the same-sex spouse information in order to take advantage of the rights and benefits available to the same-sex spouse. Review employer’s benefits policies – spousal benefits granted to same sex couples.
- Also review prenuptials and other marital agreements.
- Insurance: Insurance planning may have been part of same-sex planning prior to the Obergefell decision. All policies, along with beneficiary designations, should be reviewed in conjunction with the new planning concepts for a streamlined flow of assets upon both the first death and the death of the surviving spouse.
- Review previously filed federal tax returns: Same-sex spouses may amend previously filed federal estate, gift, and income tax returns from single to married status, subject to the statutory limitations period of three years from when the tax return was originally due or filed (if on extension) or two years from the date the tax was paid, whichever is later. Married couples living in states that did not recognize same-sex marriages prior to Obergefell may be able to amend filed state income tax returns for the years 2012, 2013, or 2014, depending on the law of the state.
- Natural Born and Adopted Children: A child, whether born or adopted into the same-sex union, needs to be specifically identified throughout the estate planning documents. The relationship of the child to the adoptive parent or parents or birth parent in a same-sex married couple can be cause for contest at the death of the legal parent if not planned for ahead of time.
- If a child is born to one spouse, the other spouse should strongly consider adoption of the child to legalize the relationship. If there is no legal relationship between the child and the spouse of the natural parent, a relative of the natural parent could fight for custody if the natural parent dies or fails to care for the child.
- The same issue applies to a child who is only adopted by one spouse. Same-sex couples may consider co-parent adoption to ensure that both parents have rights regarding child custody and guardianship.
- If a partner has a child and the other partner plans to adopt that child, he or she is eligible to receive an adoption tax credit. This credit is not available for a spouse adopting his or her spouse’s child. If a couple is planning to marry and an adoption is part of the big picture, it may be more advantageous for the adoption to take place before the couple marries.
- Non-Citizen Spouse May Consider Becoming a Citizen: Non-citizen same-sex spouses are afforded the opportunity to become U.S. citizens on the basis of their marriage to a spouse of the same sex who is a U.S. citizen. This eligibility should be considered carefully, taking all ramifications into account. For example, as a U.S. citizen the individual would be taxed by the U.S. on their worldwide income.
Also, expatriating from the U.S., renouncing your U.S. citizenship, and returning to your native country can be an expensive proposition. To expatriate, you generally must prove five years of U.S. tax compliance. If you have a net worth greater than $2 million or average annual net income tax for the five previous years of $160,000 or more, you must pay an exit tax. It is a capital gain tax as if you sold your property when you left. In addition, the U.S. State Department has raised the fee for renouncing U.S. citizenship from $450 to $2,350.
- Review current estate plan:
- Due to the tax-saving venues opened to same-sex couples, it is beneficial for the couple to review all existing plans in order to maximize federal and state estate, gift, and income tax planning.
- Beneficiary designations for insurance and retirement benefits should be reviewed in order to align the designations accordingly.
- Re-title any property with joint ownership to ownership by the couple as tenancy by the entirety. In community property states, the couple may want to convert separately-owned property to community property in order to receive a step up in basis upon the death of the survivor of the spouses.
- Confirm that definitions in the estate planning documents correctly reflect relationships, for example “spouse,” “husband,” “wife,” and/or “children,” whether naturally born or adopted.
- Determine if there is a necessity for a “no contest” clause to be incorporated in the event family members disapprove of the same-sex couple’s lifestyle or decisions regarding the estate plan.