My wife ( non-U.S. citizen) and I have two Q-TIP Living Trusts. Is a non citizen elegible for a Q-TIP Trust.?

Question

A few years ago, in order to save on inheritance taxes, my wife and I had an attorney prepare two Q-TIP Trusts. All of our assets belong to the trusts. Now I have been told that you have to be a U.S. citizen to be elegible for a trust. My wife is not a U.S. citizen. Any help would be appreciated.

Answer 1

You will need a QDOT.

Assets transferred at death to a surviving spouse who is a U.S. citizen generally benefit from an unlimited marital deduction and are thus U.S. estate tax free. In this case, the assets are taxed at the death of the surviving spouse, unless expended during the surviving spouse’s lifetime. However, if the surviving spouse is not a U.S. citizen, the marital deduction is not allowed and thus the transfer is taxed upon the first death (assuming the estate value exceeds the applicable exclusion amount, currently $1.5 million for 2004 and 2005 increasing to $3.5 million in 2009). This unfortunate result arises whether or not the decedent-spouse was a U.S. citizen. Lawmakers’ concern in enacting this seemingly harsh provision was that property transferred could otherwise easily escape U.S. estate taxation: first by reason of the unlimited marital deduction and later (upon the subsequent death of the non-citizen surviving spouse) by removal of the property from U.S. estate tax jurisdiction during the surviving spouse’s lifetime.



The Qualified Domestic Trust Option



Instead of incurring U.S. estate tax upon the first death, affected couples may choose to transfer the spousal bequest to a special-purpose trust known as a Qualified Domestic Trust or “QDOT” which provides the same benefit as the unlimited marital deduction. A QDOT is a trust for the benefit of the surviving spouse. QDOT income and hardship distributions to the surviving spouse are U.S. estate tax free, but distributions of trust corpus prior to death of the surviving spouse are taxed at source (i.e., the QDOT estate tax is withheld by the trustee). The property remaining in the trust upon the surviving spouse’s death is subject to U.S. estate tax at that time.



Requirements to Qualify as a QDOT



In order to qualify for this favorable treatment, a QDOT must satisfy several requirements: 1) the executor of the decedent's estate must make an irrevocable election to treat the trust as a QDOT on a timely filed estate tax return (or on a late return filed no later than one year after the filing deadline); 2) at least one trustee must be either a U.S. citizen or a U.S. corporation; 3) no distribution from the trust is permitted unless approved by the U.S. trustee; and 4) the trust must meet certain additional requirements intended to ensure that the QDOT estate tax will be paid (for example, a QDOT with assets over $2 million must either have a U.S. bank as trustee or post a bond or security equal to 65% of the value of assets transferred to the trust).