Credit Shelter Bequests

April 13, 2006

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While the estate and gift tax marital deductions apply only to the value of property transferred to your spouse, as a result of something called the "unified credit," a total of up to $2 million (for those who die in 2006 through 2008) in lifetime gifts and transfers at death can be sheltered from the transfer tax regardless of whom the transfers are made to.

The dollar amount of the unified credit is scheduled to increase to $3 million in 2009. The estate tax will be repealed altogether for one year in 2010. If Congress does not act between now and then, the estate tax will be reinstated in 2011 and the unified credit amount will be $1 million.

This suggests that for estates over the applicable exemption amount, at least some of the assets should not be given outright to the spouse; otherwise the exemption amount will be wasted.

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Joe More, who is married to Ida More, dies in 2006 with a federal taxable estate of $2.5 million. His will uses a credit shelter bequest of $2 million to the couple's only child, with the remaining $500,000 going to Ida. Ida should thus be well provided for, but Joe will also make full use of his $2 million unified credit.

Joe could have transferred the whole $2.5 million to Ida without tax liability (because of the marital deduction) and, at her death, she could have transferred the $2.5 million to their son. The reason that this shouldn't be done is this: Assuming that Ida still has the full $2.5 million at her death, all of it would be taxed. With the credit shelter bequest, only $500,000 is taxed — the $2 million transfer to the son escapes taxation at Ida's death.