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Many Canadians are surprised to learn that their estates may be subject to the U.S. estate tax to the extent that they hold certain property situated or deemed to be situated within the United States. The most common examples of such property are U.S. real estate and securities issued by U.S. corporations. Generally speaking, the estate tax may apply to the “taxable estate,” which is measured as the fair market value (FMV) of all of the deceased’s U.S. property less any allowable deductions.
The Internal Revenue Code provides complete relief to Canadians who own US property at death where they own less than USD 60,000 worth of US property. In addition, for Canadian resident individuals who die in 2011 or 2012 with a worldwide net worth of USD 5 million or less (calculated under U.S. estate tax rules), the Canada-U.S. Tax Treaty will afford complete relief from estate tax. To benefit from relief under the Treaty, disclosure of all worldwide assets must be made. Form 8833, “Treaty-Based Return Position Disclosure under Section 6114 or 7701(b)” must be filed with the estate tax return in order to claim Treaty protection. A U.S. estate tax return (Form 706-NA) is required if the decedent held U.S. property worth at least USD 60,000 at the time of death.
For 2011 and 2012 the basic exclusion amount is generally USD 5 million for a U.S. citizen taxable on his or her worldwide estate. The tentative estate tax liability that would otherwise correspond to the USD 5 million basic exclusion amount is USD 1,730,800 and is commonly referred as the unified credit. The top marginal estate tax rate is currently 35%, which corresponds to the top US individual income tax rate. This basic exclusion amount and these tax rates are not permanent, however, and after 2012 there is a chance the exclusion amount and the top tax rate could revert to their pre-2001 levels of USD 1,000,000 and 55%, respectively, unless Congress acts.
The Treaty offers a prorated unified credit amount for Canadian residents (non-U.S. citizens) owning U.S. property. The unified credit of USD 1,730,800 is prorated according to the value of the deceased’s US property over the value of the worldwide estate. This is a significant increase over previous unified credit amounts and should, in the short run at least, result in fewer Canadian decedents winding up with a U.S. estate tax liability, especially in light of currently depressed U.S. real estate values. In addition, the Treaty provides for a non-refundable marital credit if the property is bequeathed to a surviving Canadian resident spouse and could potentially reduce the estate tax payable beyond the reduction offered by the prorated unified credit. Moreover, in the case of a married couple, the rules now generally provide that any portion of the prorated unified credit amount not used by the first-to-die may carry over to the survivor, who may then have the prorated portion of his or her unified credit amount plus the unused portion that carried over from the first-to-die. However, it is not entirely clear at this time to what extent these new rules apply in the case of a Canadian surviving spouse who is not a U.S. citizen.
It is important to note, however, that the values that really count are the values at the date of death and that over time the value of U.S. real estate and the value of the worldwide estate may fluctuate significantly. Add to that the state of flux that the estate tax rules have experienced in recent years and it is little wonder that few advisers are confident in making predictions.
Where exposure to US estate tax exists, there are a number of techniques that can be considered to either reduce or defer exposure to the U.S. estate tax. These include:
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