How to Calculate the Marital Deduction Amount

The marital deduction is a provision within United States tax law allowing an individual to transfer an unlimited amount of assets to their legal spouse without incurring federal gift or estate tax. This applies to transfers made during a person’s lifetime or at death. Its function is to treat a married couple as a single economic unit, deferring any potential estate tax until the second spouse’s death.

Core Requirements for the Marital Deduction

For a transfer of assets to qualify for the marital deduction, several conditions must be met. The decedent must have been a U.S. citizen or resident, and the surviving spouse must be a U.S. citizen at the time of the decedent’s death. Rules for non-citizen spouses are distinct and addressed in a later section.

A requirement is that the property intended for the deduction must be included in the decedent’s gross estate. The gross estate includes all property the decedent owned or had an interest in at the time of death. Property that is not part of the gross estate cannot be part of the marital deduction calculation.

The property must also “pass” from the decedent to the surviving spouse. This legal transfer can occur through several means, including:

• Being specified in a will or trust
• Beneficiary designation on accounts like life insurance or retirement plans
• Operation of law, such as with jointly owned property with rights of survivorship

A limitation is the nondeductible terminable interest rule. A terminable interest is a property right that will end based on a specific event or the passage of time. For instance, if a will states, “I leave my house to my spouse for 10 years, and then to my child,” the spouse’s interest is terminable and does not qualify for the deduction. This rule prevents property from escaping taxation in both estates, but exceptions exist, most notably through specialized trusts.

Calculating the Marital Deduction Amount

The actual deduction amount is the net value of qualifying assets transferred to the spouse. The calculation begins with the fair market value of the property at the date of the decedent’s death or an alternative valuation date if elected by the executor.

From this fair market value, any debts or encumbrances attached to the property must be subtracted. Common examples include mortgages on real estate, liens against assets, or any administrative expenses or taxes legally required to be paid from the property passing to the spouse.

For example, if a decedent leaves a $1 million home with a $200,000 mortgage to their spouse, the marital deduction for that asset is the net value of $800,000. If estate or inheritance taxes are payable from the portion of the estate designated for the surviving spouse, the marital deduction amount must also be reduced accordingly.

Using Trusts to Qualify for the Marital Deduction

Trusts are a method for navigating the terminable interest rule, allowing assets to qualify for the deduction while letting the decedent control the property’s ultimate disposition. The most common vehicle for this is the Qualified Terminable Interest Property (QTIP) trust. A QTIP trust is structured to provide for the surviving spouse during their lifetime while preserving the principal for other beneficiaries.

A QTIP trust grants the surviving spouse a lifetime interest in its income. The trust must pay all income to the surviving spouse at least annually, and during their lifetime, no one can appoint any part of the trust’s principal to anyone else. This structure provides for the spouse while the decedent controls who inherits the assets after the surviving spouse’s death.

For the trust property to qualify, the decedent’s executor must make an irrevocable QTIP election. This election signifies an agreement to treat the trust assets as qualifying for the marital deduction. The consequence of this election is that the trust’s assets are included in the surviving spouse’s gross estate at their death, deferring the estate tax until that time.

The Marital Deduction for Non-Citizen Spouses

The unlimited marital deduction is not available for transfers to a non-citizen surviving spouse. This restriction exists because a non-citizen spouse could move assets outside the U.S., avoiding estate tax upon their death.

To allow for tax deferral, a Qualified Domestic Trust (QDOT) can be used. Assets transferred into a QDOT qualify for the marital deduction, with the estate tax deferred until the principal is distributed to the spouse or upon the spouse’s death.

QDOTs have strict requirements to ensure tax collection. At least one trustee must be a U.S. citizen or domestic corporation with the right to withhold estate tax from any principal distributions made to the non-citizen spouse.

For trusts with assets over $2 million, additional security may be required, such as having a U.S. bank as a trustee or posting a bond with the IRS. A QDOT can be created by the decedent’s will or trust, or the surviving spouse can create one after death and transfer the assets into it. The executor must elect to treat the trust as a QDOT on the estate tax return.

Filing and Reporting the Marital Deduction

The marital deduction is claimed on the federal estate tax return, Form 706. This form is required for estates exceeding the federal filing threshold or for those electing portability of the deceased spouse’s unused exclusion amount (DSUE). The return is due nine months after death, with a six-month extension available, but the deadline for a portability-only filing is five years from the date of death.

Qualifying property is listed on Schedule M of Form 706. Each asset, including property in qualifying trusts, must be described with its value.

The executor makes elections on Form 706. The QTIP election is made on Schedule M by listing the trust property, which makes the decision binding.

Another election on Form 706 is for portability. This allows a decedent’s unused estate and gift tax exclusion amount (DSUE) to be transferred to the surviving spouse. The executor makes this election on Part 6 of the form, allowing the surviving spouse to use the DSUE.