It’s not unusual for Canadian kids to end up in the US. World-renowned schools, coveted job opportunities in the San Fran tech market and the infatuation of “making it” in Hollywood remain strong draws on Canadian talent. As a result, many Canadian parents see one or more of their kids move to the US – kids who often end up staying there long term.
At some point, the kid will become subject to US tax, either by obtaining a Green Card and becoming a long-term US resident, or by acquiring US citizenship. Enter the dreaded US estate tax – the US tax regime whereby following the death of a US taxpayer, estates worth more than the current $5,490,000 USD exemption amount are taxed at the highest federal tax rate of 40% (on the value, not on the gain!).
So, if Suzy is living and working in the US for the rest of her life and works hard to generate assets of $3,000,000 USD, at her death, Suzy should have no federal US estate tax when she dies, provided the exemption amount remains at $5,490,000 USD.
But what happens if mom and dad (who are still in Canada) die and leave Suzy a nice inheritance of $5,000,000 USD? Suzy will have $8,000,000 USD in assets at her death, and she’ll be over the exemption amount and subject to tax at the rate of 40% on assets above the $5,490,000 USD threshold. That amounts to a whopping tax of over $1,000,000 USD to Suzy’s estate.
Instead, mom and dad could have left the inheritance in a trust for Suzy, carefully drafted so that the $5,000,000 USD is excluded from Suzy’s assets when determining her US estate tax exposure. Not only would the $5,000,000 USD be excluded from US estate tax, but the growth on that $5,000,000 USD would be sheltered as well, achieving significant savings for Suzy and future generations.
President Trump has talked about repealing the US estate tax entirely. His critics argue that such a repeal would serve him and his “billionaire family and friends” quite well as the tax materially impacts wealthy individuals with large estates. Such a repeal would certainly help “the rich get richer”. But what would such a repeal mean for mom and dad?
Say Mr. Trump is in fact successful in repealing the tax (not so easy as he needs the support of the “super-majority” in the senate, i.e. at least 60 senators need to be on board to make such a change). Does that mean mom and dad should leave their inheritance to Suzy outright? What happens down the road if a future administration brings back the tax and implements a lower exemption amount and/or a higher tax rate? You may remember that back in 2011 the US estate tax was 55% on assets above $3,000,000 USD.
The point is that rules change. History has shown that taxes are more likely to go up than down over time. And the US continues to remind the world of its unpredictability. If mom and dad decide to leave their estate to Suzy outright on the basis that the tax has been repealed or if they take a “wait-and-see” approach to tax reform, they will be taking a gamble. If the US estate tax rules are reinstated after mom and dad have died and Suzy is in receipt of a large inheritance, the cash will already be in Suzy’s hands, and it will be too late to carry out planning to avoid US estate tax at that time.
If I were a gambling woman, I would bet that the better plan would be for mom and dad to spend a little today to potentially save a lot tomorrow. That way, they preserve their hard-earned cash for their heirs, regardless of anticipated changes to US tax law.