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US Estate Tax Liability Considerations

December 13, 2016

US Estate Tax Liability Considerations for Executors and Heirs of Nonresident Estates with US Assets

When a "nonresident alien" dies owning US real estate, US stocks, or other "US situs" assets, a US federal estate tax return must be filed if the decedent's aggregate "US situs" assets exceed $60,000.

What happens if the US estate tax return is not filed? Among other factors, it is necessary to distinguish between a special IRS tax lien, and other liens and liabilities which lead to personal liability for joint owners of the property, heirs and other transferees, as well as US and non-US executors of the estate, and US lawyers and others assisting in the sale of the US property. (See CCA 201418048).

SPECIAL IRS TAX LIEN

When a nonresident aliens dies while owning US situs assets, an IRS tax lien automatically attaches to all the US situs assets of the decedent for a period of 10 years. (IRC 6324(a)(1)).

The lien is not required to be publicly recorded. Therefore, a future potential buyer of the property (or his/her lawyer) should want to ensure the estate tax issue and the related estate tax lien has been addressed, before the purchase is concluded. If an estate tax return has not been filed and deadlines have passed, certain tax treaty benefits may no longer be available.

Once the estate tax return has been filed and the proper tax paid, the IRS lien will automatically be released. But, what happens if the IRS lien has not yet been released? Can the property be sold? The answer depends, in part, on whether the estate is a "resident estate" or a "nonresident estate".

For resident estates, if probated real property is to be sold before the lien is released, IRC 6324(a)(3) provides that the property can be divested of the estate tax lien, but the lien attaches to the consideration received by the estate or heir. (See also CCA 201418048, and CCA 201129037).

For resident estates, if non-probated real property is to be sold, IRC 6324(a)(2) provides that the property is divested of the estate tax lien but a like lien attaches to all the property of the transferor.

In practice for resident estates, IRS Form 4422 is filed and an escrow agreement for the sales proceeds is entered into with the IRS, which will release the IRS lien. A different procedure applies if the estate is below the tax filing threshold.

For nonresident estates, a completely separate set of rules applies if real property is to be sold before the IRS lien is released. Reg. §20.6325-1(c) provides that if the property is being administered by an executor or administrator appointed, qualified, and acting with the US - e.g. if the property is being probated in the US, then a release from the IRS is not required. In this case, the executor (often referred to as the "personal representative") may have the liability for the estate tax. At the appropriate time the executor can apply to "discharge the property subject to the lien" by filing the aforementioned IRS Form 4422, but this will not, under current IRS procedures, result in release of the lien for a nonresident estate. Further, the escrow procedure mentioned above is also not available. Presently, for a nonresident estate, the IRS will only issue a release of lien, (upon request) when an estate tax return has been filed and all tax, interest, and penalties, if applicable, have been paid.

Similarly, if the property of a nonresident estate is not being probated in the US, the IRS will only issue a release of lien, (upon request) when an estate tax return has been filed and all tax, interest, and penalties, if applicable, have been paid.

Previously, nonresident estates could obtain a restricted release of lien (referred to a "restricted transfer certificate") releasing the specific property being sold from the IRS lien, to allow the sale to proceed. (Reg. §20.6325-1(a)). However, recently the IRS "temporarily" discontinued issuing such restricted transfer certificates.

Therefore, it appears a buyer of either probate or non-probate US real estate from a nonresident estate cannot be assured of the property being free of the IRS tax lien until an estate tax return has been filed and all tax, interest and penalties, if applicable, have been paid. A different procedure applies if the estate is below the tax filing threshold.

SPOUSE'S OR HEIR'S LIABILITY FOR THE ESTATE TAX

If the US estate tax is not paid, then the spouse, beneficiary or other heir or transferee who receives non-probate property from the Estate may be liable for the estate tax (including interest and penalties) to the extent of the value of the property received (referred to a "transferee liability". (IRC 6324(a)(2)). This transferee liability would apply to the joint owner (for example, a spouse) of jointly owned real estate. In the case of probated property, the liability can pass to the recipient of consideration received for the property. (IRC 6324(a)(3)). This liability may arise even if the heir is unaware the executor failed to pay the estate tax. If the assets of the decedent's estate pass to a trust, the trustee of the trust could also be liable.

EXECUTOR'S LIABILITY UNDER "US FEDERAL PRIORITY STATUTE"

An executor of an estate who pays a debt of the estate before paying a debt of the Government (e.g. US estate tax) is personallyliable to the Government to the extent of the lesser of the debt paid, or the unpaid US estate tax under the "Federal Priority Statute". (31 USC 3713(b)). Would this apply to a Canadian or other non-US executor? This liability can apply to any executor if the estate tax filing requirement "should be" obvious to the executor. If the executor is a professional (Non-US CPA, lawyer, etc.) the IRS might consider that such an individual should be knowledgeable about such a requirement, or should at least make appropriate enquiries. The Government is enforcing this law. For example, see the recent case US v. Marci McNicol CA-1, decided July 15, 2016.

EXECUTOR/ADMINISTRATOR'S LIABILITY UNDER TAX LAW

The executor of the estate has the obligation to file the estate tax return and pay the estate tax. (IRC 2002 and Reg. §20.2002-1). The term "executor" means the executor or administrator of the estate. (IRC 2203).

The executor (which may include a joint owner of the property such as a spouse) must file Form 56 with the IRS. There is no penalty for failure to file. However, if Form 56 is not filed and the IRS sends a Notice of Tax Deficiency to a different or incorrect address, and the executor does not timely respond, the executor could be time-barred from court access to dispute the claim.

As indicated above, in the case of probated property (e.g. property being administered by an executor or administrator appointed, qualified, and acting with the US), the executor can file IRS Form 4422 to apply for a discharge of the estate tax lien. (IRC 2204). However, as also indicated above, at the moment this apparently will not release the special IRS lien on US real estate for a nonresident estate.

The executor can apply for discharge of his/her liability in his/her capacity as an executor by filing IRS Form 5495.

LIABILITY OF "ANYONE" HANDLING DECEDENT'S ASSETS

If there is no executor or administrator appointed, qualified, and acting within the US, the "executor" is any person in actual or constructive possession of any property of the decedent (often referred to as a "statutory executor"). (IRC 2203). Thus, if there is no US executor because all the US assets are jointly owned, an "executor" could include a joint owner of the US situs property such as a spouse, a closing agent handling a real estate sale, or perhaps even a non-US lawyer or CPA handling US affairs of the Estate. Brokers "holding as collateral securities in the US belong to the decedent" may be "executors" (Reg. §20.2203-1). Also "brokers", including non-US stock brokers, would appear to be statutory executors when there is no US probate, and therefore subject to liability pursuant to the interaction of IRC 2203, 6324, and 6325(c).


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