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LEGAL INFORMATION
Estate
Planning
Business & Tax Law
Contractors
and Construction
LEGAL OVERVIEWS
Family Limited Partnership
IRS
Restructuring Act
Tax
Deferred Annuities
Qualified Personal
Residence Trust
Distribution Planning-IRA's
    
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THE ADVANTAGES AND
DISADVANTAGES OF FAMILY LIMITED PARTNERSHIPS
The family limited partnership (FLP) is a very popular estate
planning tool. The FLP is similar to a regular limited partnership, but typically holds
the income-producing assets of a single family. It can be used to pass a family business
or rental properties to children or grandchildren without triggering probate and estate
taxes. But in addition to tax avoidance, a FLP offers a host of other benefits as well.
A "Tax Avoidance" Strategy
In its simplest form, a FLP is created in two steps. First, parents transfer property
to a newly-formed partnership in exchange for both the general and limited partnership
interests. This effectively converts property interest ownership into partnership interest
ownership. Next, limited partnership interests are gifted to family members using the
Lifetime Gift Exclusion Credit of up to $1.2 million per child. Subsequently, parents are
able to make further annual gifts of limited partnership interests to their children under
the annual gift tax exclusion. Parents are thereby able to transfer substantial amounts of
accumulated wealth without estate or gift tax consequences.
Gifts are Subject to Discounts: Another Tax Saving
Limited partnership interests are valued at a discount when transferred to family
members. The rate of discount reflects the generally unattractive nature of the interest
to the public investment community. Limited partners may not participate in control of the
business. Further, FLPs usually contain restrictions on transfer and dissolution which
effectively "lock in" minority interests. Since potential investors would find
themselves unable to control their investment, force liquidation, or freely sell the
interest to a willing buyer, they would be unwilling to pay "full price" for the
interest.
A "minority control discount" is applied to the value of the partnership
interest to reflect its unattractiveness compared to other investment opportunities. As a
consequence, it is possible to transfer interests in excess of exclusion caps without
triggering gift taxes. Additionally, a portion of the interests transferred to family
members under the lifetime exclusion will occur without income tax consequence to the
recipient. The IRS no longer challenges the concept of minority discounts, but taxpayers
must, nevertheless, provide credible evidence to support any claimed discount. Therefore,
proper and accurate valuation is a critical step in forming an FLP.
Some Powerful Advantages
The minority discount allows a taxpayer to take maximum advantage of the $10,000 per
year/per recipient gift tax exclusion. But beyond avoiding wealth transfer taxes, FLPs
offer some significant non-tax advantages over other estate planning tools.
For example, the FLP transfers ownership of assets without relinquishing power of control.
The parents may continue to operate a business or manage assets while diverting income
streams to lower tax bracket family members. Assets remain consolidated and can be managed
to optimize earning potential. Income can be diverted to children or grandchildren without
encountering risks associated with inexperience or immaturity.
Another significant benefit of the FLP is asset protection. The creditors of limited
partners cannot reach partnership assets. Only the partnership interests may be attached,
and since limited partners cannot force liquidation, creditors are entitled only to share
in the distribution of profits. This makes the limited partnership interest a rather
unattractive asset to attach for judgment/debt satisfaction.
The FLP is not for Everyone
The FLP is not without some disadvantages. The most significant of these is cost.
Since appraisal services are required in addition to legal services, FLPs are typically
more expensive to form than other estate planning tools. As the asset base of the
partnership becomes more complex, the appraisal fees will increase.
Other disadvantages relate to the type of assets involved. FLPs are not suited to holding
only stocks or marketable securities. Also, when real properties comprise the partnership
assets, transfer of interests totalling 50 percent or more will trigger tax reassessment
under Proposition 13. Thus, the decision to form a FLP must carefully consider both the
nature of the assets to be transferred and long-term gift strategies.
The FLP is not the right solution for every family, but in the right set of circumstances,
it may be the ultimate tool for estate and family business planning.
Issue 3
Living wills have figured prominently in the news following
revelations that Jacqueline Kennedy Onassis and Richard Nixon had authored such
declarations. A living will is a document containing advance instructions regarding
life-prolonging medical treatment, which becomes effective upon incapacitation of the
author. Considering the fact that America's population continues its trek through middle
age, it's not surprising that concern over limits on medical treatment for terminally ill
patients continues to grow. But are living wills the best answer? Critics say no.
Individuals who execute living wills may find their decisions ignored by doctors who are
hesitant to withhold life sustaining treatment based on the strength of a piece of paper.
Others may find their express wishes disregarded because of ambiguity. But these problems
are avoided by those who execute a durable power of attorney for health care (DPA).
A DPA is a proxy appointment whereby an individual designates a third party to make
decisions on their behalf in the event of incapacity. California is one of twenty-three
states, which recognize DPAs created specifically for medical care decisions. Like living
wills, they enable a principal to advance instructions to prolong or withhold treatment.
However, unlike living wills, the instructions run to a designated third-party that holds
power to make medical choices on behalf of the principal. By removing responsibility and
control from the doctor, DPAs offer greater assurance that an individual's wishes will be
respected in a time of medical crisis.
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