Global Tax Insights
IRS Aims to Curb Family Limited Partnership (FLP) Valuation DiscountsAugust 23, 2016
Are you a partner in a family limited partnership? If you’re planning to gift partnership interests to family members and take advantage of a discount—you could be in trouble.
Have you read our blog, “Family Limited Partnerships: Effective Estate Tax Trimmer”? You’ll want to check it out, especially if you’re a limited partner in a FLP. The IRS has recently proposed new tax regulations that aim to abolish most discounts on transfers of entity interests, which includes those in a family limited partnership. The rules could be finalized as early as January 2017, so you’ll want to take advantage of discounts while you are still able.
How is a FLP used?
Our blog provides a good summary, but to refresh your memory, a Family Limited Partnership, or FLP is a limited partnership, meaning it offers some members limited liability for business debts, but it is controlled by members of a family. A FLP can be a great estate planning tool in that it reduces the taxable estate of senior family members by transferring limited partnership interests to other family members at discounted values, as well as by discounting the remaining partnership interests still held by the senior family members at death.
There are two types of partners in a FLP. The general partner directs and oversees all management and investment decisions and bears 100% of the liability. The limited partners, on the other hand, have limited liability and therefore are not permitted to participate in the FLP’s management or operation.
The opportunity (or “problem” if you ask the IRS) with FLPs is that limited interests in the partnerships carry lack of marketability, minority, and control discounts, since limited partners typically have little or no say in the management of the FLP, can’t easily sell their interests, and have no voting interests. Hence, many limited partners gift or sell their interests in the FLP to other family members or trusts for the benefit of other family members, so that they are able to claim a discount on the valuation of the partnership interests. The discount depends on the liquidity of the assets and all of the other governing provisions of the partnership agreement, but it can range from 25-40% of net asset value.
IRS proposing to curb the discount
On August 2nd, the IRS proposed regulations to curb these valuation discounts because they feel the discounts artificially lower partnership interest value while not fairly restricting ownership rights. The IRS feels that the existing rules are ineffective in muffling these, as they call them “unwarranted valuation discounts”.
If these regulations go through as planned, it will be more expensive for limited partners to pass FLP interests to family members.
What can I do in the mean time?
It has been strongly suggested that you gift or sell your partnership interests and claim the discount before the end of 2016 as the final regulations will likely be issued at the end of the year, or early 2017. They’ll become final thirty days after their publication.
There is a public hearing on this issue scheduled for December 1st. Though the IRS does not have to implement any comments they receive, they are required to consider them.
Contact our Tax Services Team for more information.