The Qualified Domestic Trust (QDT) is an estate planning tool for when one of the spouses is a non U.S. citizen. Unlike the unlimited marital deduction transfers between spouses who are U.S. citizens, congress has not allowed the same privileges when the transfer of money goes from one spouse to another who is a non U.S. citizen. Absent the QDT and complex tax treaties, such a transfer requires any amount above the unified lifetime credit ($1,000,000.00 in 2002) of the deceased spouse to be immediately taxed at the applicable rates (37-50%).
For estate tax advantage, it is always better for both spouses to be U.S. citizens, however, sometimes that may not be practical-thus, the QDT is the second best option in estate tax planning. What the QDT does is that it temporarily delays the taxation of any amount placed in the QDT until the surviving spouse dies, or if there is a taxable event such as distributions made during the lifetime of the surviving spouse or the QDT ceases to meet the requirements imposed by the regulations. If the surviving spouse maintains a valid QDT, the advantage would be that the whole trust amount-before any estate taxes-would be used to produce income (interest from investments). The interest income would then be distributed to the surviving spouse much in the same way like receiving income from investments. Had the amount in the QDT been taxed outright, the surviving spouse would have only had approximately 50% of the after taxed amount to invest.
Upon death of the surviving spouse, the amount left in the QDT is taxed at the first spouse’s estate tax rate (recall, it had not been taxed but only temporarily delayed) then the remainder is included in the survivor’s estate for applicable tax and distribution.
The complexities of this area are further heightened by the fact that several countries have estate and gift tax treaties with the U.S.-which in some circumstances may provide more tax advantages than the QDT. These advantages must be researched by a good estate planning and tax attorney because they are not automatic and may change from time to time. One must irrevocably elect either to be taxed under the treaty (if applicable) or the QDT by the time the estate tax return is due or permanently waive these options.
This area of estate planning is often called multinational estate planning. It is a subspecialty of estate planning and great care must be used in obtaining the proper specialist for these more complex areas.