Elective 706 Filings - Portability Returns
Perhaps the only procedure for a pared-down estate tax return
In my last article on elective 706 filings, I discussed the question of whether a 706 filed solely for purposes of the QTIP election can be abbreviated. In other words, could we file a bare 706, perhaps with just the decedent’s info and Schedule M? Unfortunately, there is no specific procedure for a QTIP-only filing, unless we piggyback on the procedures for a portability-only return.
Before diving into some of the nuances of the portability-only return, however, please remember that what we are discussing does not apply if a decedent’s estate is required to file Form 706 under IRC Section 6018. If the 706 is not required to be filed (typically because the sum of the gross estate, plus adjusted taxable gifts, do not exceed the decedent’s basic exclusion amount), then the abbreviated reporting discussed in this article may be used.
Timing
In the QTIP article, I noted that there is no deadline on filing the first 706 if the sole reason for filing is to make the QTIP election. However, it is typical that an elective QTIP return would be filed for purposes of making a portability election, since every dollar of QTIP election beyond what is necessary to zero out estate tax will create unused exclusion to be preserved for the surviving spouse. Of course, the same holds true for the estate tax charitable deduction - that every dollar of deduction will generate a dollar of DSUE - but our primary focus here will be the estate tax marital deduction.
Rev. Proc. 2022-34 now gives us a longer timeframe and procedure in which to file a portability-only return, of 5 years after the decedent’s death. Keep in mind, however, that this is still technically a late return - this Revenue Procedure simply provides an alternative to seeking late portability election relief under Treas. Reg. 301.9100-3 if a 706 is not otherwise required to be filed under IRC Section 6018. So, following this procedure won’t necessarily provide relief from penalties and interest if the Service later determines that the decedent’s estate was required to file a Form 706.
As mentioned in the last article, Rev. Proc. 2022-32 by implication creates a deadline for an elective QTIP return if you wish to also make a portability election. If you file an elective QTIP return beyond this 5-year deadline, you cannot preserve any DSUE. Assuming there are sufficient assets, you would be better suited in such a scenario to make a partial QTIP election, or a Clayton QTIP election, to apply the deceased spouse’s unused basic exclusion to the QTIP trust.
Remember also that the portability election does not preserve the deceased spouse’s unused GST exemption. This will take on special significance in the next article, where we explore elective 706 filings for purposes of allocating GST exemption.
Valuation
For a QTIP-only elective return, there is no relief to the executor in reporting the estate tax values of assets on Form 706. However, where a portability election is to be made, special relief can be found in Treas. Reg. 20.2010-2(a)(7)(ii)(A). When reviewed in conjunction with the instructions for completing Form 706, this election allows the executor to aggregate the values of qualifying assets that generate DSUE, in increments of $250,000 (rounded up to the nearest increment).
But, the relief is not quite as appealing as it sounds. As noted in the Regulation:
Paragraph (a)(7)(ii)(A) of this section applies only if the executor exercises due diligence to estimate the fair market value of the gross estate, including the property described in paragraph (a)(7)(ii)(A) of this section. Using the executor's best estimate of the value of properties to which paragraph (a)(7)(ii)(A) of this section applies, the executor must report on the estate tax return, under penalties of perjury, the amount corresponding to the particular range within which falls the executor's best estimate of the total gross estate, in accordance with the Instructions for Form 706.
While this burden seems to be inconsistent with such broad estimated increments of $250,000, it is still ominous for the executor who is questioning whether they should just get full appraisals. As noted in the last article, lackadaisical reporting can have trickle-down effects, including the income tax consequences to be incurred by the trust (or surviving spouse) on the sale of QTIP-elected assets.
So, which assets qualify for this special valuation rule? Generally, only those assets which actually use the estate tax marital deduction or charitable deduction qualify, as these assets generate DSUE. So, even in an elective portability 706, you must obtain full appraised values for assets passing to anybody other than a spouse or charity, including trusts such as a credit shelter trust or a descendant’s trust.
Diving deeper, this special valuation rule does not apply where only a fraction of the asset uses the marital or charitable deduction. Thus, for example, if a trustee divides an asset fractionally between a marital trust and a credit shelter trust (whether mandated by the trust, or in the trustee’s discretion), this asset would not qualify for special valuation. Keep in mind that the executor, not the trustee, is the party charged with making this election. So, the trustee and executor could be at odds if the same person is not carrying out both roles.
Even if there is no fractional funding, certain other estate tax benefits may be dependent on the value of assets that qualify for the marital deduction or charitable deduction. Usually, these benefits would only pop up if the 706 is required or if there is an estate tax payable, but the question of whether the 706 is required may rely on certain benefits (such as the alternate valuation date). To the extent assets subject to the marital or charitable deduction may generate these claimed benefits (such as the 2032A special use valuation, 6166 installment payment of estate taxes, or 303 stock redemption), the special valuation rule for the portability election would not be available. Why? Because these benefits are based on the value of the gross estate, which is calculated prior to the subtraction of the marital or charitable deduction(s).
Procedure
In filing an elective portability return, in addition to the requirements of Rev. Proc 2022-32 (if filed beyond the traditional 706 deadline of 9 months after date of death, or extended deadline of 15 months), claiming the special estimated valuation requires certain parts of the 706 to be completed. See the video above for these parts, which include:
Line 11 of Part 1 (electing the use of the special valuation rule);
Line 10 of Part 5 (estimating the value of all qualifying assets, rounded up to the nearest $250,000 increment as part of the gross estate); and
Line 23 of Part 5 (deducting the amount from Line 10 to arrive at the taxable estate).
The values of these assets should not be reported on the other Schedules of the 706, as it is this recapitulation on Part 5 that captures the aggregate value of all assets generating DSUE through estimated values. But, there must be a description of each qualifying asset on each Schedule which is sufficient to meet the adequate disclosure requirements.
Remember, also, that Part 6 of the 706 should be completed. Take care not to inadvertently elect out of portability by checking the wrong box, or by not calculating the DSUE under the tables on Part 6. See the following video for more on this procedure:
Conclusion
The Treasury Regulations for an elective portability 706 provide perhaps the only current abbreviated procedure for preparing a 706 without reporting all asset values. To the extent the QTIP election is applied to assets, this estimated valuation procedure can apply assuming there is no fractional funding. Note, however, that the regulations are unclear on whether this special valuation rule could be used if a fraction of the property qualifies for the marital deduction, with the rest qualifying for the charitable deduction, or vice versa.
Thus, for example, if an estate plan left all assets (with no fractional funding) to a spouse, one or more charities, and/or a QTIP trust for which the QTIP election was made for all assets, it would be possible to simply estimate all values in $250,000 increments and report these values on Part 5 of the 706. Descriptions of each asset, however, would still be needed on the appropriate Schedules (including Schedules M and O).
Nonetheless, where a partial (and perhaps a Clayton) QTIP election will be made, this estimated value procedure would not apply to the assets for which the QTIP election is not made in full. Similarly, a partial disclaimer by a surviving spouse over a fraction of an asset may disqualify that asset for estimated value reporting. And, as we will find out next time, if the decedent will apply GST exemption to QTIP-elected assets through a reverse QTIP election, you may not be able to use the special estimated value rule, either.