How to avoid accidentally disinheriting your spouse

When was the last time you reviewed your will? Do you remember your attorney discussing a concept known as the unified credit? (A unified credit is a credit against the federal gift and estate tax otherwise payable by an individual or estate. It is frequently referred to as the estate tax exemption amount, the exemption equivalent, or applicable exclusion amount.) Did your attorney discuss an amount that was exempt from estate taxes? Some people may believe that if they don’t have a federal estate tax problem, they don’t need to review their wills. That is incorrect, and unfortunately, inaction may result in a surviving spouse being disinherited accidentally.

What is an estate tax?

An estate tax is imposed by the government when you die and transfer your assets to heirs. The estate of the deceased is liable for the tax. An estate tax differs from an inheritance tax, which is imposed by certain states when a beneficiary receives property. The heir pays the inheritance tax, not the estate of the deceased. More than 20 states have state estate taxes that differ from the federal system, so your estate could be subject to a state estate tax even if it is not subject to a federal estate tax.

Some couples may have set up estate plans so that when the first spouse dies, a certain amount of money equal to the exemption amount is allocated to a family trust. (A family trust is a trust established to benefit an individual’s spouse, children, or other family members. It is often the bypass trust or credit shelter trust created under a will.) The estate’s balance may be left outright to the surviving spouse or to a marital trust for his or her benefit, with the intention of reducing estate taxes. This was once a critical planning technique to avoid wasting the exemption amount of the first spouse to die. Now, however, the unused exemption amount at the first death is “portable”: it can be used by the surviving spouse in addition to his or her own exemption. Just as importantly, the exemption is now $10,000,000 (indexed for inflation annually), not $5,000,000 (indexed for inflation annually) as it was prior to TCJA or $2,000,000 or less as it was in the early 2000’s. Now an estate plan that was set up several years ago could be disastrous. Because regulations have been changing, however, it’s important to question the benefits of such a plan, especially for couples with significant wealth.

The impact of an estate tax on your spouse

Let’s take a simple example. Bill and Mary are married. Bill has an estate of $10,000,000 (the same amount it was worth in 2013, when he drafted his will), and he dies in 2022. His will directs his executor to fund a family trust with property equal to the exemption equivalent. When Bill drafted the will, the exemption amount was $5,250,000 million,^1,2 so he believed Mary would receive an outright bequest of $4,750,000 million. 

For 2022, the threshold for triggering federal estate taxes was raised to $12.06 million for individuals. For married couples, this threshold is doubled, meaning that up to $24.12 million can be transferred without being subject to estate taxes.³ Now, upon Bill’s death, the family trust will receive the entire estate, and Mary will receive nothing outright. Bill undoubtedly didn’t intend to disinherit Mary. Yet Mary now only has the assets in her own name, and maybe an income interest from the assets held in Bill’s family trust. It’s probably safe to say Mary isn’t happy.

To complicate matters, a surviving spouse may have the option of contesting a will or trust if he or she isn’t provided a certain amount of money. States that are considered “separate property” states may have “right of election” laws that prevent an individual from disinheriting a spouse — intentionally or unintentionally. Even with this right of election, however, the result for the surviving spouse may not be what was intended.

Individuals like Bill should review their estate planning documents with their attorneys and financial professionals to confirm their effectiveness. Estate planning is an evolving process. It’s important to have your estate planning documents reviewed periodically, especially when you experience major life or economic events and tax laws change. Your attorney can have the documents updated to reflect the changes in the tax laws, financial environment, or intent.