For a Canadian, marrying an American citizen may have its advantages, but from a tax perspective, an American spouse is complicated and expensive. Assets owned by the American spouse will be subject to the U.S. estate tax at death – the estate tax is imposed at marginal rates of 18% up to 40% on the fair market value of all assets (wherever situated) owned at death. Fortunately, with advance planning, it’s possible to manage estate tax exposure while still ensuring that a surviving American spouse has access to – and a significant degree of control over – inherited assets.
For a married couple that includes a Canadian spouse (who is not a U.S. person) and a U.S. spouse (e.g. a U.S. citizen), the following considerations may be helpful in navigating their estate plan:
1. U.S. Gift and Estate Tax Exemption. The current (and anticipated) gift and estate tax exemption will provide the backdrop for estate planning for the couple. This exemption refers to the amount that a U.S. person can transfer during life or at death to any person free of U.S. gift or estate tax.[1] Under current law, the estate tax exemption is $13.61 million (USD), but absent new tax legislation, it will fall by one-half at the end of 2025. Ideally, the value of assets owned by the U.S. spouse should remain below the current (or anticipated) estate tax exemption, however, the volatility of the exemption makes this a moving target and, as a result, a more prudent approach may be to limit the U.S. spouse’s ownership of assets as much as possible (after taking into account other financial, tax and legal considerations).
2. Joint Ownership of Assets. Joint ownership of an asset is a common planning technique used to avoid probate at the death of the first owner (the asset passes by operation of law rather than under a will which may be subject to probate). In the case of a U.S. spouse, joint ownership may expose the property to U.S. estate tax:
a) if the Canadian spouse dies first, then the U.S. spouse becomes the sole owner and the full value of the property will be subject to estate tax if the U.S. spouse still owns the property at death; or
b) if the U.S. spouse dies first, the full value of the property will be subject to estate tax unless the U.S. spouse can show that the Canadian spouse paid for all or part of the asset or the property was received as a gift (in either case the value subject to estate tax will be reduced accordingly).
A more prudent approach may be for the Canadian spouse to own the asset him/herself. Under the Canadian spouse’s will, if the U.S. spouse survives, the asset could pass to a trust qualifying as a “spousal trust” for Canadian income tax purposes which (if properly structured) would not be subject to U.S. estate tax at the U.S. spouse’s subsequent death (as described in more detail under #3 below).
[1] There is additional estate tax relief under the Convention between Canada and the United States of America with Respect to Taxes on Income and on Capital (e.g. for certain gifts to charities).
3. Spousal Trust. The will of the Canadian spouse may direct that assets intended to benefit the U.S. spouse pass to a “spousal trust” (which qualifies for the spousal rollover for Canadian income tax purposes) rather than outright. Provided the U.S. spouse’s interest in and control over the trust are properly circumscribed (as described below), assets held in the trust should not be subject to U.S. estate tax at the U.S. spouse’s death.[1]
The U.S. spouse can be given a significant degree of control over the spousal trust without rendering the trust taxable for U.S. estate tax purposes. For example:
a) The U.S. spouse may act as sole trustee with complete control over the investment of the trust assets;
b) The U.S. spouse may be able to determine who inherits the trust fund at his/her death (subject to certain limitations); and/or
c) The U.S. spouse may be given the power to make distributions from the trust to him/herself, provided those distributions are for his/her health, education, maintenance and support. The U.S. spouse may be appointed to act with (or may have the power to appoint) an “independent trustee” who would have broad discretion to make distributions to the U.S. spouse for any purpose.
Keeping these strategies in mind when executing an estate plan may help a “cross-border” couple achieve their dispositive goals while minimizing exposure to the U.S. estate tax.
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[2] Assuming it is a Canadian trust, the trust would be subject to the U.S. trust anti-deferral regime, also known as the “throwback tax” and would need to be managed accordingly.
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