In an estate planning context, the acronym QDOT stands for a qualified domestic trust. This type of trust can be valuable if you are a wealthy United States citizen who is married to a citizen of another country.
Before we provide details about QDOTs, we should examine the estate tax parameters.
Federal Estate Tax Parameters
There is an estate tax on the federal level, and a number of the states levy state-level estate taxes. Our firm practices in the state of Iowa. Here in Iowa, there is no state-level estate tax, but Iowa citizens are potentially subject to the federal estate tax.
Everyone is not exposed to the federal estate tax because there is a credit or exclusion. Your estate is not taxable if its value does not exceed the amount of this exclusion. During the current calendar year, the amount of the estate tax exclusion is $5.34 million.
There is an unlimited federal estate tax marital deduction. You can bequeath unlimited assets to your spouse free of the estate tax. You do not have to use any of your available $5.34 million lifetime exclusion to leave a tax-free bequest to your spouse if your spouse is an American citizen.
The unlimited marital deduction is not available to non-citizen spouses. If this deduction was extended to a non-citizen spouse, the individual in question could return to his or her country of citizenship after receiving a tax-free inheritance. Under these circumstances, the Internal Revenue Service would never be able to collect anything.
When a citizen spouse receives a large tax-free inheritance from his or her deceased spouse, the estate tax is still a factor because the surviving spouse would be in possession of a taxable estate.
Though the unlimited marital deduction is not available to non-citizen spouses, an estate planning solution does exist.
QDOT for Tax Efficiency
If you are married to a citizen of another country, you could gain estate tax efficiency through the creation of a QDOT or qualified domestic trust. You fund the trust, and you name a trustee to administer the vehicle. Your spouse would act as the initial beneficiary, and your children would typically be named as the secondary beneficiaries.
After you die, the assets in the trust are not subject to the estate tax at first. While your surviving spouse is still alive, he or she can receive distributions from the earnings of the trust. The estate tax would not be applicable on these distributions, but regular income taxes would be levied.
The earning power of the entirety of the estate remains intact during the life of the surviving spouse.
After the surviving spouse passes away, the secondary beneficiaries inherit the assets in the trust. This transfer is subject to the estate tax, but tax savings were realized during the life of the surviving spouse.