In the field of estate planning the acronym QDOT stands for a qualified domestic trust. To understand the value of a qualified domestic trust, you must know a few things about the federal estate tax.
Estate Tax Parameters
The federal estate tax credit or exclusion is $5.34 million in 2014. This is the amount that can be transferred free of taxation. If you are leaving behind more than $5.34 million, the estate tax is potentially applicable. The tax carries a maximum rate of 40 percent.
There is an unlimited marital estate tax deduction. You do not have to use any of your available lifetime exclusion to leave property to your spouse. Under the unlimited marital deduction, you can leave any amount of money and/or property to your spouse free of taxation.
However, there is a caveat to the above statement. The unlimited marital estate tax deduction is only available to spouses who are citizens of the United States. If you are married to a citizen of another country, you cannot use the unlimited marital deduction.
The powers that be are not particularly concerned about a citizen spouse receiving a tax-free inheritance, because the inheritance would be subject to subsequent taxation.
However, if the unlimited marital deduction was extended to non-citizen spouses, the surviving spouse could return to his or her country of origin. Under those circumstances the IRS would never see any money. This is why the unlimited marital deduction is not available to non-citizen spouses.
Qualified Domestic Trusts
Qualified domestic trusts are often utilized by people who have estate tax exposure who are married to spouses who are not citizens of the United States. With a QDOT trust you name your spouse as the beneficiary. If you do in fact die first, the estate tax would not be applied to the value of the trust.
While your spouse is still living, he or she could draw income from the earnings of the trust. These earnings would be enhanced by the fact that the estate tax was never imposed on the principal. The distributions of the earnings are not subject to the estate tax, but the surviving spouse would be required to pay taxes on the income.
It should be noted that it is possible for the surviving spouse to draw from the principal at the discretion of the trustee. However, those distributions would be subject to the estate tax unless a hardship exemption was granted by the Internal Revenue Service.
After the death of the surviving spouse, the assets in the trust would be subject to the estate tax as they were being transferred to the inheritors.
If you would like to learn more about QDOT trusts and other tax efficiency strategies, contact us to request a free consultation.