Limited Family Partnerships & Estate Tax Planning
A Family Limited Partnership (FLP) allows family members to own shares of a family business while securing estate and gift tax protections. While a Family Limited Partnership can have an impact on estate taxes, it's essential to understand that the specifics can vary depending on your individual circumstances, the structure of the FLP, and changes in tax laws. Here are some key points to consider regarding how an FLP may impact estate taxes:
1. Valuation Discounts: One of the primary reasons individuals and families establish FLPs is to take advantage of valuation discounts for estate tax purposes. When you transfer assets into an FLP, the value of the transferred assets may be eligible for discounts, such as a lack of marketability discount or a minority interest discount. These discounts can reduce the overall value of your taxable estate, potentially resulting in lower estate taxes.
2. Control and Ownership: In an FLP, the senior family members (the general partners) typically retain control over the partnership while transferring limited partnership interests to younger generations. This can allow for the gradual transfer of assets while maintaining management control. However, the IRS may scrutinize these transfers to ensure they are not solely for the purpose of avoiding estate taxes.
3. IRS Scrutiny: The IRS closely examines FLPs and similar entities to determine if they are established for legitimate business purposes or primarily for estate tax reduction. If they believe that the primary purpose is to reduce estate taxes, they may challenge the valuation discounts and attempt to include more of the FLP's assets in the taxable estate.
4. Applicable Exclusion Amount: The impact of an FLP on estate taxes also depends on the size of your estate and the applicable exclusion amount. The federal estate tax exclusion amount is subject to change due to legislation. It determines the value of an estate that is exempt from federal estate tax. If your estate is below this threshold, estate taxes may not be a concern, regardless of FLPs or other estate planning strategies.
5. State Estate Taxes: In addition to federal estate taxes, some states have their own estate or inheritance taxes, and the rules can vary widely. FLPs may have different implications at the state level, so it's crucial to consider state-specific laws and regulations.
6. Proper Planning and Documentation: To ensure that an FLP is effective in reducing estate taxes and to withstand IRS scrutiny, it's essential to engage in comprehensive estate planning with the guidance of legal and financial professionals. Proper documentation, adherence to business purposes, and adherence to partnership formalities are crucial.
While an FLP can be an effective estate planning tool to reduce estate taxes by taking advantage of valuation discounts, it's essential to use this strategy carefully and in compliance with tax laws. Consultation with experienced estate planning professionals is highly recommended to determine whether an FLP is appropriate for your specific situation and to navigate the complexities of estate tax planning.