Post-DOMA Planning: Exploring Some of the Most Significant Federal Benefits Now Available to Married Same-Sex Couples
Once the Supreme Court's decisions regarding the Defense of Marriage Act have had some time to sink in, same-sex couples and their advisors will need to start sorting through the changes resulting from this decision and determining how they or their clients are likely to be personally affected by them. Federal benefits including social security, military and veterans’ benefits, and pension and health benefits for federal employees, will now be available to married same-sex couples, which may greatly affect couples' retirement plans. Income tax planning and medical and life insurance plans will need to be reviewed as well.
There are many additional changes that are likely to affect the same-sex couples’ financial and estate planning. For example, the case United States v. Windsor specifically involved an important tax benefit, the marital deduction. This benefit, which will now be available to married same-sex couples, allows spouses to transfer assets in any amount between each other, either during life or at death, without having to pay a federal gift tax or estate tax, as long as the receiving spouse is a U.S. citizen. Previously, married same-sex couples would have had to pay federal transfer or estate taxes on any gift or inheritance that exceeded the allowable tax-free amount.
Another significant benefit that will now become available to same-sex couples is known as portability. Portability is the ability of widows or widowers to add the unused estate tax exclusion amount of their deceased spouse (currently $5.25 million) to their own, allowing same-sex spouses to jointly exclude up to $10.5 million from their estates. This benefit requires the executor handling the estate of the deceased spouse to transfer the unused exclusion to the surviving spouse, who can then use it to either to make lifetime gifts or to pass assets through his or her estate. This in turn requires the filing of an estate tax return within nine months of the death of the first spouse, with a six-month extension allowed. The estate tax return must be filed even if no tax is owed.
Additionally, same-sex spouses can now take advantage of gift-splitting. Currently, a person can gift up to $14,000 per year to as many recipients as he or she wants without any requirement to include that gift on a gift tax return. This amount is known as the “annual exclusion” amount. Spouses are allowed to combine this amount so that they are able to jointly gift up to $28,000 to any one individual without any requirement of reporting that gift, either by giving funds to the individual directly or putting funds into a trust for their benefit. Any gift that exceeds the annual exclusion amount will count against the lifetime gift tax exclusion, however, which is the amount a person can give away during his or her lifetime without triggering a gift tax (currently up to 40% of the gift amount). The lifetime exclusion amount is currently $5.25 million, but same-sex spouses now can also take advantage of gift-splitting here and will together be able to transfer up to $10.5 million in lifetime gifts.
Although most of the consequences of the Supreme Court's ruling will result in financial benefits for same-sex couples, some negative consequences may also result. Because their marriages were not previously recognized by the federal government, some same-sex couples may have used strategies for asset preservation that are not available to legally-recognized spouses. One example of this type of strategy is the Grantor Retained Income Trust (GRIT), which allows a grantor to transfer assets that are expected to grow and appreciate over time to a new trust while retaining an income interest for a predetermined period of years. The value of the gift to the beneficiary will be reduced by the value of the income interest retained by the grantor. The benefit of this type of trust is that it essentially freezes the value of the assets at the time of the transfer while allowing appreciation and growth to occur outside of the grantor's estate. GRITs cannot be used to give large gifts to certain family members, including spouses. Now that the federal government will recognize the marriages of same-sex couples, they will be considered family members and will no longer be able to make gifts through a GRIT. Same-sex couples that previously decided to use a GRIT to gain transfer tax savings and were married at the time the trust was created may have to prepare for potential adverse financial consequences, such as a large gift tax that could potentially still be assessed years after the transfer.
Some questions remain about the extent of the changes that will ultimately result from the Supreme Court's decision in Windsor. For example, in is unclear what the effect will be if a same-sex couple married in a state that currently recognizes same-sex marriage, such as Connecticut, moves to a state that does not, such as Florida. In this scenario, it remains to be seen what benefits enjoyed by the couple in the state in which they were married would be retained in their new state of residence. Despite these uncertainties, which may take some time to be resolved, same-sex couples should be able to begin taking advantage of the federal benefits described above very soon, as President Obama has already directed federal government officials to review all relevant statutes and ensure that the Supreme Court's decision regarding DOMA is implemented swiftly and smoothly.