What the cliff act means for estate taxes

By Terry F. Ritchie | January 9, 2013 | Last updated on September 15, 2023
3 min read

The U.S. passed The American Taxpayer Relief Act last week. Here’s an overview of the estate tax implications.

Read: How the cliff act affects cross-border taxes

Estate tax exemption and rates

The U.S. estate-tax environment has been in flux for years. In 2001, the estate tax exemption was $675,000 and the top rate 55%. In 2009, it rose to $3.5 million and 45%. Then, the tax disappeared in 2010 but reappeared in 2011 at a $5-million exemption level and 35% top rate.

After the cliff act, the exemption remains $5 million and the top rate is 40%, the only change from 2012.

Read: Does your client have U.S. tax risk?

Adjusted for inflation, the 2013 estate tax exemption should be $5.25 million for individuals and $10.5 million for married U.S. couples. If inflation adjustments continue, by the end of the decade the exemption could be as high as $7.5 million for individuals and $15 million for married couples.

Given the higher exemption amounts, this will likely remove or reduce the expected exposure most snowbirds would have on personally owned U.S. property.

Read: U.S. real estate is still a bargain

Estate tax portability

If you have married U.S.-citizen clients in Canada, it’s important to draft their wills so as to reduce or defer U.S. estate tax.

This is typically achieved through credit shelters, also known as bypass trusts or A/B trusts. These testamentary trusts make it so a person’s surviving spouse doesn’t directly inherit the estate and become subject to higher estate tax exposure.

Some could argue the cliff act makes these trusts unnecessary, because the surviving spouse will be entitled to take the unused exemption from her husband’s estate.

Read: U.S. estate uncertainty still exists (December 2010)

Even so, there are still many reasons why clients with cross-border exposure will still want to use these trusts:

  • Protecting assets for children or the surviving spouse due to a second marriage by surviving spouse
  • Asset protection from creditors
  • Assets could increase in value and would be subject to exposure if held directly by the surviving spouse.
  • Administration of the estate could be reduced given the formality of such trusts.

U.S. gift tax

The lifetime U.S. gift tax exemption is $5.25 million for the 2013 tax year.

The annual gift tax exclusion amount for individuals now increases to $14,000 from $13,000. The annual gift tax exclusion made by a U.S. citizen to non-citizen spouse increases to $143,000. The top rate is now 40% from the previous 35%.

Issues for snowbirds

In most cases, the threat of U.S. estate tax exposure on U.S. property will diminish or be eliminated given the higher inflation-adjusted permanent estate tax exemptions.

However, if their gains exceed US$200,000 after selling real property, there’s potential for greater U.S. capital gains tax exposure.

Read: IRS issues guidelines for tax compliance

A tax expert recently suggested the Federal Withholding rate imposed under FIRPTA against non-U.S. persons who sell U.S. real property would increase from 10% to 20%.

Although there was a provision that related to FIRPTA in the cliff act (Sec. 1445(e)(1)), it appears this would only apply to gains of U.S. property by partnerships, trusts and estates to foreign partners or beneficiaries, not between U.S. individuals and Canadians holding such property personally.

Terry F. Ritchie is a Calgary-based cross-border financial planner with expertise in both American and Canadian tax regimes, and co-author of The Canadian Snowbird in America, The Canadian in America, and The American in Canada. Look for updated editions of these books in 2013.

Terry F. Ritchie