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Tax & Estate Planning Implications of the Supreme Court’s DOMA Ruling

Tax Alert | November 6, 2013
By: Suzanne A. Prybella

In a decision that will continue to generate significant changes in U.S. tax law, the Supreme Court (in U.S. v. Windsor) struck down portions of the federal Defense of marriage Act (DOMA), holding that it was unconstitutional. Specifically, the Court held that Section 3 of DOMA (which provides that “marriage” means only the legal union between one man and one woman, and “spouse” refers only to a person of the opposite sex who is a husband or wife) violated the equal protection clause of the Fifth Amendment of the constitution as it applies to same-sex couples legally married under the laws of their state. The Court’s decision opens the door for same-sex married couples to enjoy many federal tax-related benefits previously available only to opposite-sex married couples, including several income, gift and estate tax benefits. 

Same-sex married couples are now permitted to file joint tax returns which could result in financial benefit. It should be noted, however, that joint filing tends to favor married spouses with very different incomes (e.g. where one spouse earns little or no income and the other earns the majority of the income needed to support the family). For some taxpayers—specifically those in marriages in which both spouses are high income earners—married status filers generally will owe more income tax under the “married filing jointly” status than they would if they filed two separate returns under the “single” filing status.  The reason for this “marriage penalty” is that joint return income thresholds (e.g., the income level at which the next marginal tax bracket applies), while higher than unmarried individual return thresholds, are not twice as high. Thus, some high-earning married taxpayers, whether they file as “married filing jointly” or “married filing separately,” will pay higher rates of tax than they would if they were unmarried individual filers. 

Same-sex married couples who make taxable gifts can now take advantage of gift splitting, which is a rule of taxation that permits a married couple to split the total value of a gift, as if each individual contributed half of the amount. Gift splitting thereby enables a married couple to use twice the amount of the annual gift tax exclusion per donee by combining the married couple’s individual annual gift tax exclusions. In addition, same-sex married couples now qualify for the marital deduction which permits spouses to transfer assets to each other tax-free during their lifetime or at death, thus avoiding federal estate tax on assets left to a surviving spouse and postponing until the death of such surviving spouse the federal estate tax that otherwise would be due upon the death of the first spouse. Furthermore, same-sex married couples can now take advantage of portability rules which permit a surviving spouse to use a deceased spouse's unused estate tax exemption.

In addition, the IRS and the Treasury Department have announced that their respective departments will use a “place of celebration” rule in recognizing same-sex marriages. This means that for federal tax purposes, the federal government recognizes a same-sex marriage if the marriage was legally recognized in the place where it marriage celebration
occurred. This is true even if the married couple subsequently lives in a state where same-sex marriage has not yet been recognized. Same-sex married couples may (but are not obligated to) file amended returns for tax years back to 2010. The Department of Health and Human Services has also ruled that legally married same-sex couples, wherever they live, are eligible for certain Medicare benefits reserved for married couples. Most recently, the U.S. Department of Labor’s Employee Benefits Security Administration (EBSA) has announced that it is following the IRS in recognizing marriages based on the validity of the marriage in the state of celebration, rather than based on the married couple's state of domicile. Such recognition will thus apply for purposes of interpreting the meaning of “spouse” and “marriage” in the provisions of the Employee Retirement Income Security Act (ERISA) and in any other laws that EBSA is responsible for interpreting.

However, it is important to note that the federal definitions of “spouse” and “marriage” do not include individuals (whether of the opposite sex or the same sex) who have entered into a registered domestic partnership, civil union, or other similar formal relationship recognized under state law that is not denominated a marriage under such state law, regardless of whether the individuals who are in such relationships have the same rights and responsibilities as individuals who are married in such state.

Furthermore, although DOMA’s partial invalidation will not directly affect state tax law (as DOMA was a federal law), DOMA’s partial overturn will likely influence states’ reassessments of their respective laws concerning the validity of same-sex marriages. Lawsuits contesting state laws which outlaw same-sex marriages are currently winding their way through the court systems of several states, including Pennsylvania. New Jersey recently became the 14th state to legalize same sex marriage, at the conclusion of one such lawsuit. Illinois is likely to become the 15th state very soon.

There are a myriad of other tax consequences and opportunities created by the Supreme Court’s partial invalidation of DOMA. Same-sex married couples are strongly advised to meet with an experienced tax advisor to review and update their current financial and estate plans in order to take advantage of new tax planning opportunities.

If you would like to discuss how any of these changes may affect your business or personal income tax situation, or have any other tax or estate planning questions, please contact, Bill Hussey (215-864-6257), John Eagan (212-868-4835), Kevin Koscil (215-864-6827) or Suzanne Prybella (215-864-7188). The Tax and Estates Practice Group at White and Williams is committed to keeping our clients and friends up to date with important tax developments.

IRS Circular 230 Notice:  To ensure compliance with certain regulations promulgated by the U.S. Internal Revenue Service, we inform you that any federal tax advice contained in this communication (including any  attachments) is not intended or written to be used, and cannot be used, by any taxpayer for the purpose of (1) avoiding tax-related penalties under the U.S. Internal Revenue Code, or (2) promoting, marketing or recommending to another party any tax-related matters addressed herein, unless expressly stated otherwise.

This correspondence should not be construed as legal advice or legal opinion on any specific facts or circumstances. The contents are intended for general informational purposes only, and you are urged to consult a lawyer concerning your own situation and legal questions.
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