IRS’ New Portability Relief Can Greatly Reduce Estate Tax

By Kelly Pelletier August 4, 2022

On July 8, 2022, the IRS published Revenue Procedure 2022-32, which allows more taxpayers to file for portability using a simplified method. This new Rev. Proc. supersedes Revenue Procedure 2017-34, and expands relief for the executors of certain estates who might have missed the original filing deadline for the decedent’s estate tax return. Under Rev. Proc. 2022-32, qualifying estates may file an estate tax return to request portability of the decedent’s unused estate tax exemption up to the fifth anniversary of the decedent’s date of death.

Executive Summary

Each taxpayer has a fixed amount of asset value that can escape estate tax at the time of death – an exemption. Revenue Procedure 2022-32 allows more time, including retroactively, for a surviving spouse to add the unused portion of a deceased spouse’s exemption to his or her own, for use at the time of the surviving spouse’s death. An election is required to accomplish this portability.

What is “Portability?”

Portability is the ability of a deceased spouse — rather, the executor of that spouse’s estate — to transfer their unused estate tax exemption to the surviving spouse so the surviving spouse can add it to their own lifetime exemption. This concept is still relatively new, and is only available to the estates of decedents dying after December 31, 2010. For taxpayers dying prior to January 1, 2011, any unused estate tax exemption was (and remains) simply lost.

Estate tax exemption that has been transferred to the surviving spouse via a portability election is called Deceased Spouse Unused Exclusion (“DSUE”). DSUE can be utilized by the surviving spouse for their lifetime gifting, or ultimately applied at the surviving spouse’s death to reduce or avoid estate tax. DSUE and portability are governed by IRC § 2010(c)(4) and (5), respectively.

How to Elect Portability

DSUE may not be taken into account by the surviving spouse unless the executor of the predeceased spouse’s estate makes the election for portability.[1] In order to make this election, the executor must file a complete estate tax return, which computes the deceased spouse’s unused exemption amount and makes the election. The portability election is made by filling out Part 6, Section C of Form 706. Pursuant to IRC § 2010(c)(5)(A), the estate tax return must be timely filed, which means that it is filed within nine months of the decedent’s death, plus applicable extensions.

Why Is Portability Important?

The ability to elect portability is an extremely valuable estate planning tool for middle to high net worth, married clients. Most married taxpayers leave some or all of their assets to their surviving spouse upon death. The value of the inherited assets is included in the second spouse’s gross estate upon their death. This inherited property may appreciate significantly between the deaths of the first and second spouse, which could create an estate tax liability for the surviving spouse if they do not have enough of their own exemption to shelter those assets.

Example #1: Imagine married couple A and B, who have a total of $15M of assets between the two of them. Spouse A owns $10M of the assets and dies first, leaving everything to Spouse B. Spouse A is not required to file an estate tax return, because thei gross estate is below the $12.06M basic exclusion amount available for 2022 (assuming Spouse A has not made any taxable gifts during life which used lifetime exemption). When Spouse B dies, they will be on the hook for $15M of assets — $5M belonging to Spouse B personally, plus the $10M inherited from Spouse A. As of 2022, Spouse B only has about $12M of their own exemption (again, assuming no lifetime gifting), which presents a problem. Imagine, further, if Spouse A’s $10M of wealth was comprised of an investment portfolio appreciating at 5% per year. If Spouse B outlives Spouse A for just one year, they would have an additional $500k of assets to include in their estate at death. Spouse B will have to pay estate tax on the net $3.5M of assets that exceed their estate tax exemption.

However, the executor of Spouse A’s estate can file an estate tax return for Spouse A, taking a marital deduction[2] for the assets left to Spouse B. This reduces Spouse A’s taxable estate to $0 and leaves $12M of unused estate tax exemption available for the portability election. Making the election will port Spouse A’s $12M of unused exemption to Spouse B, giving them a total of $24M of lifetime exemption to use in their own estate planning. Electing portability in this type of situation can create significant tax savings for the couple. The estate tax rate is a flat 40%[3], which is higher than the top ordinary income tax rate! Paying estate tax not only eats into the beneficiaries’ inheritance, but it can also create a liquidity issue for estates that primarily consist of real estate or a family business. Without portability, Spouse B’s estate (from the example) would be required to pay almost $1.5M in estate tax. However, with a portability election, they would have more than enough estate tax exemption to avoid estate tax altogether.

The estate tax exemption (also known as “lifetime exemption” or “basic exclusion amount”) for taxpayers dying in 2022 is $12.06M.[4] With such a high lifetime exemption currently available, many couples disregard the portability election, thinking “our assets are way below $24M.” However, it’s important to remember that these high exclusion amounts are temporary. At the end of 2017, the Tax Cuts and Jobs Act doubled the basic exclusion amount for decedents dying (or gifts made) after December 31, 2017.[5] This temporary increase is due to sunset in 2025; for decedents dying after December 31, 2025, the basic exclusion will return to $5,000,000, indexed for inflation (likely somewhere in the realm of $6.5M — $7M). This decrease will apply to all living taxpayers and does not affect DSUE ported from the estates of decedents dying before January 1, 2026. Therefore, for decedents dying between 1/1/2018 and 12/31/2025, strong consideration should be given to making a portability election in order to lock in the predeceased spouse’s higher exclusion amount.

Example #2: Assuming the same facts from the example above, if Spouse B dies in 2026 with no DSUE from Spouse A, they might only have $6M — $7M of exemption. With a gross estate of $15.5M, Spouse B’s estate would owe over $3M of estate tax. However, by making portability election on Spouse A’s death, Spouse B will have an extra $12M of DSUE to add to their reduced exemption, which allows their estate to avoid paying estate tax.

This chart illustrates the various scenarios and outcomes described above:

	Pre-2026 Sunset (Example 1)		Post-2026 Sunset (Example 2)
	No Portability Election	Portability Elected	No Portability Election	Portability Elected
Spouse B Gross Estate	$15,500,000	$15,500,000	$15,500,000	$15,500,000
Exemption Available	$12,000,000	$24,000,000	$6,500,000	$18,500,000
Net Taxable Estate	$3,000,000	$0	$9,000,000	$0
Estate Tax Liability	$1,400,000	$0	$3,600,000	$0

 

Legislative History

IRC § 2010(c)(5)(A) requires the timely filing of Form 706 in order to elect portability. However, after portability became permanent in 2013,[6] it quickly became apparent to the IRS that small estates were frequently missing the deadline to file a return to elect portability. Often, the executor either was not aware of the need to file a return to make the election, or did not discover that a portability election had not been made until years later. In its first attempt at relief, the Service published Revenue Procedure 2014-18 to provide a simplified method for obtaining an extension of time to file to elect portability. However, this relief was only available on or before December 31, 2014, and was a short-term solution.

After that date, the IRS continued to receive a substantial number of requests for extension of time to file Form 706 to elect portability.[7] Accordingly, in 2017, the IRS published Revenue Procedure 2017-34, which again provided a simplified method for electing portability, and extended the time to make this election (under certain circumstances) to the second anniversary of the decedent’s death. This relief was only available for estates which were not otherwise required to file an estate tax return pursuant to IRC § 6018(a) (filing is required when the value of the gross estate, plus adjusted taxable gifts, exceeds the basic exclusion amount). If an extension of time to file a return to elect portability was needed past the second anniversary of the decedent’s death, the taxpayer would need to request a private letter ruling to obtain such extension.

While the two-year extension was sufficient relief for many, the IRS found it was still receiving a high volume of requests for an extension of time to file (beyond the two years) via private letter ruling. Citing “a significant burden on the available resources of the IRS”[8] to issue these letters, and recognizing that a “significant percentage of these ruling requests have been from estate of decedents who died within five years preceding the date of the request,”[9] the IRS published Revenue Procedure 2022-32 to supersede Rev. Proc. 2017-34 and extend the relief period to the fifth anniversary of the decedent’s date of death. The IRS has indicated that effective July 8, 2022, no letter rulings will be issued on this topic before the fifth anniversary of date of death, and any estate with a pending request will be refunded the user fee.

Filing for Portability Under Rev. Proc. 2022-32

To take advantage of the extended filing period provided under Rev. Proc. 2022-32, the taxpayer must not have already filed an estate tax return.[10] Additionally, this filing option is only available for estates that are not otherwise required to file in accordance with IRC § 6018(a). If the IRS determines that an estate filing for portability under this Rev. Proc. 2022-32 was required to file an estate tax return in accordance with § 6018(a), relief is voided and any resulting estate tax is subject to interest and penalties. Consistent with Rev. Proc. 2017-34, estates electing portability must file a complete and properly prepared estate tax return on or before the fifth anniversary of the decedent’s date of death, and write “filed pursuant to Rev. Proc. 2022-32 to elect portability under § 2010(c)(5)(A).”

DSUE dates back to the decedent’s date of death, as if the estate tax return was timely filed. If the application of DSUE available to the surviving spouse by nature of this filing would result in the overpayment of gift or estate tax by the surviving spouse or their estate, a refund may be sought within the time prescribed by § 6511(a). If the surviving spouse dies before the portability election is made, the executor of their estate can file a protective claim for credit or refund in anticipation of an estate tax return filed pursuant to Rev. Proc. 2022-32.

Conclusion

Revenue Procedure 2022-32 represents a significant concession on the part of the IRS to greatly expand taxpayers’ ability to elect portability.  An election must be made to utilize its features, but the heirs of many decedents stand to receive an inheritance that is less diluted by tax if action is taken to utilize Revenue Procedure 2022-32’s portability concessions as intended.

For more information, please contact Kelly Pelletier or your BNN advisor at 800.244.7444.

[1] IRC § 2010(c)(5)(A).

[2] IRC § 2056(a).

[3] See IRC § 2001.

[4] Lifetime exemption is reduced by taxable gifts made during a taxpayer’s lifetime (part of the unified credit system), so not all taxpayers will die with the full $12.06M.

[5] IRC § 2010(c)(3)(C).

[6] The portability feature of estate tax became permanent on January 2, 2013, when then President Barack Obama signed the American Taxpayer Relief Act into law.

[7] Rev. Proc. 2017-34.

[8] Rev. Proc. 2022-32

[9] Id.

[10] Portability must be elected on the Form 706 filed, and cannot be amended to elect portability.