A Qualified Domestic Trust (QDOT) is a helpful estate planning tool when one spouse is not a U.S. citizen.
Over the years, we have noticed a marked increase in our client couples of "mixed citizenship" here in Greater Kansas City.
Not surprisingly, our community is home to an increasing number of international companies.
Regarding their estate planning, these couples need to be mindful of a specific tax "gotcha," and not ignore it to their financial peril.
Why?
The laws governing U.S. and non-U.S. citizens in estate planning are different.
American citizens have certain benefits that are afforded to them under federal law.
One such benefit is the unlimited marital deduction, which exempts an estate from federal estate taxes when a spouse who is a U.S. citizen inherits.
Surviving spouses who are not U.S. citizens do not automatically receive the same deduction.
To avoid significant tax burdens, married couples with mixed citizenship should work with an experienced estate planning attorney to create a Qualified Domestic Trust (QDOT), whether as part of a lifetime gift strategy or to take effect postmortem.
The QDOT allows spouses who are citizens of another country to defer estate taxes on their inheritances from their spouse's estate.
A QDOT protects inherited assets for spouses who are not citizens of the United States.
The U.S. federal tax law only permits spouses who are U.S. citizens to qualify for the unlimited marital tax deduction.
What is the unlimited marital tax deduction?
This tax law allows spouses to inherit assets without immediately triggering estate taxes.
When a non-citizen spouse inherits assets over the federal estate tax exemption threshold, the amount greater than the exemption amount could be taxed at 40 percent.
Yikes!
Although the current estate tax threshold is $13.99 million in 2025, this is set to return to previous levels in 2026.
This exact level is uncertain, but most experts believe it would be around $7 million.
Why does the U.S. tax law not apply the unlimited marital tax deduction to non-citizens?
The U.S. government does not want a non-citizen spouse to be able to leave the country with untaxed inherited assets.
With a QDOT, the surviving spouse can benefit from the trust while ensuring estate taxes are adequately handled.
A Qualified Domestic Trust is a special type of trust for holding assets for non-citizen spouses while allowing for taxes to be deferred.
How does the trust operate?
Establish the QDOT.
An experienced estate planning attorney must first create the trust as part of the estate plan for the spouse who is a U.S. citizen.
The spouse who is not a U.S. citizen should be named as the beneficiary.
Fund the Trust.
An empty trust is worthless.
The American spouse must transfer assets to the QDOT, whether by lifetime gifting or postmortem as part of the estate distribution.
Create Trustee Oversight.
For a QDOT to be effective, at least one trustee must be a U.S. financial institution or a U.S. citizen.
This ensures the IRS maintains oversight of the trust.
Arrange Income Distributions.
By setting up income distributions from the trust, the non-spouse will be able to receive income from the trust while avoiding estate taxes.
Understand Principal Distributions and Estate Taxes.
If the spouse should need to make withdraws on the principal from the account, then estate taxes may be triggered even with the use of a QDOT unless the spouse is granted a hardship exemption.
After the surviving non-citizen spouse dies, estate taxes on the assets remaining in the trust will be levied prior to distribution to other heirs.
The IRS has specific rules a trust must satisfy to qualify as a QDOT.
What are these?
First, a United States financial institution or citizen must be named as a trustee.
Second, the trust must be created before an estate tax return is filed.
Lastly, estate taxes must be deferred rather than eliminated.
The trust must be established before the estate tax return is filed.
What are the benefits of a Qualified Domestic Trust?
Rather than the non-citizen spouse inheriting assets after the 40 percent estate tax has been levied, the surviving spouse would be able to receive income from the full amount of the estate without the delay of probate.
The estate tax withdrawals would be deferred until after the death of the surviving spouse.
The death of a spouse can leave the widow or widower financially vulnerable.
A QDOT enables non-citizen spouses to receive income from a trust from the full principal.
As a result, they maintain financial security after the death of their spouse.
In the absence of a QDOT, a non-citizen spouse is required to become a U.S. citizen to qualify for the marital deduction.
With a Qualified Domestic Trust, the non-citizen spouse will not have to change his or her immigration status in order to benefit from a delay in estate taxes.
QDOTs allow families to reduce tax liabilities, preserve wealth, and smoothly distribute assets to future generations.
Although a Qualified Domestic Trust is a wise choice for many who choose to marry someone from another country, it is not always the best choice for everyone.
Another option for transferring wealth and setting a non-citizen spouse up for financial security is through lifetime giving.
In this current tax year, a U.S. citizen can transfer $190,000 to a non-citizen spouse without triggering a gift tax.
By making these gifts each year, assets can be transferred gradually over time.
Another alternative is for the spouse to become a U.S. citizen before the estate is settled.
In this case, the unlimited marital deduction could be applied retroactively.
Those who are married to someone who is not a United States citizen should consider using a Qualified Domestic Trust.
Failing to prepare for asset distribution to a non-citizen spouse properly can leave loved ones with significant tax burdens and issues accessing the inheritance.
Working with an experienced estate planning attorney to create a properly structured QDOT can provide financial security and protect assets.
You can request a consultation with our Overland Park estate planning office to discuss your options.
Estates have fewer protections when the spousal heir is not a citizen of the United States.
Because an unlimited marital deduction will not apply automatically, a Qualified Domestic Trust could be created to provide similar delays to estate taxes.
To qualify as a QDOT, a trust must have at least one acting trustee who is a U.S. citizen or financial institution.
A Qualified Domestic Trust allows non-citizens to defer estate taxes without having the pressure of securing U.S. citizenship.
Other methods of providing greater financial security and avoiding a significant estate tax are obtaining U.S. citizenship or utilizing lifetime giving.
This post is for informational purposes only and does not provide legal advice. You should contact an attorney for advice concerning any particular issue or problem. Nothing herein creates an attorney-client relationship between Harvest Law KC and the reader.
Reference: Investopedia (March 28, 2021) "Qualified Domestic Trust (QDOT): Definition and How It Works"
REMEMBER: “The choice of a lawyer is an important decision and should not be based solely upon advertisements.”
This statement is required by rule of the Supreme Court of Missouri.
