Corporate Transparency Act May Impact Estate Planning

March 21, 2023

A recent federal law, the Corporate Transparency Act may have a have an impact on your estate planning. The law mandates reporting to the government that may affect many of those who’ve done estate planning, asset protection planning, or own real estate. Forbes’s recent article entitled “Corporate Transparency Act Affects Your Estate Plan” explains that, while users of this information are supposed to be carefully limited to governing agencies, its breadth and disclosures, may seem invasive.

The goal of the new legislation is to wade through the entity formalities and find out who truly owns the company and its assets. The Act is part of a growing worldwide effort to thwart illegal activities, including tax evasion, money-laundering, tax fraud and other financial crimes.

This type of reporting is new to the U.S. The rules are quite different than anything that’s been around in the past. The law is designed to have the U.S. catch up to the reporting standards common in other developed countries. These reporting requirements are very different from tax returns.

The CTA reporting requirements could affect the owners or principals behind or involved in almost all business entities. This includes limited liability companies (LLCs), corporations, limited partnerships and other closely held entities. Most of the entities created as part of your planning may be subjected to the new rules:

Investment planning might include forming a holding company to aggregate securities and other investments. A small business or a rental real estate property are typically segregated into separate entities to avoid a domino effect, if there is a lawsuit involving the underlying asset.
Your estate plan might include the creation of one or more LLCs designed to hold other assets or even other entities to facilitate trust funding or trust administration. A family limited partnership might be created to hold investment assets for management or estate tax valuation discount purposes.
If you’re doing asset protection planning, an experienced estate planning attorney may help you to form different entities to insulate the underlying assets from claims of creditors.

Experts say there could be more than 30 million entities that will be required to file. Work closely with your estate planning attorney to see how the corporate transparency act may impact your estate planning. If you would like to learn more about the LLCs and business planning, please visit our previous posts.

Reference: Forbes (Feb. 26, 2023) “Corporate Transparency Act Affects Your Estate Plan”

Benefits and Drawbacks of Family Limited Partnerships

January 3, 2023

Being able to transfer wealth from one generation to the next is a good thing, especially now, when a big change is coming to the federal estate tax exemption amount, says a recent article titled “The Pros and Cons of Family Limited Partnerships” from The Wall Street Journal. The are benefits and drawbacks to Family Limited Partnerships.

In 2022, estates valued at up to $12.06 million are exempt from federal taxes. However, on January 1, 2026, the exemption sinks to around $6 million, with adjustments for inflation. As a result, wealthy Americans are now re-evaluating their estate plans and many are turning to the Family Limited Partnership, or FLP, as a tax saving strategy.

An FLP can be tailored to suit every family’s needs. You don’t have to be ultra-wealthy for an FLP to make sense. An upper-middle class family owning a small business or real estate properties they’re not ready to sell could make good use of an FLP, as well as a real estate mogul owning properties in multiple states.

There are some caveats. The cost of setting up an FLP ranges from $8,000 to $15,000. However, it can go higher depending on the state of residence and the complexity of the partnership. There are annual operating costs, tax filings and appraisal fees. The IRS isn’t always fond of FLPs, because there is an institutional belief that FLPs are subject to abuse.

The FLP needs to be drafted with an experienced estate planning attorney, working in consultation with a CPA and financial advisor. This is definitely not a Do-It-Yourself project.

What makes these partnerships different from traditional limited partnerships is that all partners are family members. There are two kinds of partners: general and limited. The parents or grandparents are usually the general partners. They contribute the bulk of the assets, typically a small business, stock portfolio or real estate. Children are limited partners, with interests in the partnership.

The general partners control all of the investment and management decisions and bear the partnership liability, even though their ownership of assets can be as little as 1% or 2%. They make the day-to-day business decisions, including funds allocation and income distribution. The ability of the general partner to maintain control of the transferred assets is one of the FLP’s biggest advantage. The FLP reduces the taxable estate, while maintaining control of the assets.

Once the entity is created, assets can be transferred to the FLP immediately or over time, depending on the family’s plan. The overall goal is to get as much of the property out of the general partners’ taxable estate as possible. Assets in the FLP are divided and gifted to limited partners, although this is often a gift to a trust for the limited partners, who are the general partners’ descendants. Placing the assets in a trust adds another layer of protection, since the gift remains outside of the limited partner’s taxable estate as well.

To avoid a challenge by the IRS, the partnership must be conducted as a business entity. Meetings need to be scheduled regularly, with formal meeting minutes recorded properly. General partners are to be compensated for their services, and limited partners must pay taxes on their share of income from the partnership. The involvement of professionals in the FLP is needed to be sure the FLP remains compliant with IRS rules.

An alternative is to create a Family Limited Liability Company instead of a Family Limited Partnership. These can be created to operate much like an FLP, while also protecting partners from liability.

Partnerships are not for everyone. Your estate planning attorney will advise regarding the benefits and drawbacks of Family Limited Partnerships, and whether an FLP or an FLLC makes more sense for your family. If you would like to learn more about family limited partnerships, please visit our previous posts.

Reference: The Wall Street Journal (Dec. 3, 2022) “The Pros and Cons of Family Limited Partnerships”

Photo by AV RAW

Protect the Family Business for the Next Generation

December 6, 2022

The reality and finality of death is uncomfortable to think about. However, people need to plan for death, unless they want to leave their families a mess instead of a blessing. In a family-owned business, this is especially vital, according to a recent article, “All in the Family—Transition Strategies for Family Businesses” from Bloomberg Law. There are strategies you can use to protect the family business for the next generation.

The family business is often the family’s largest financial asset. The business owner typically doesn’t have much liquidity outside of the business itself. Federal estate taxes upon death need special consideration. Every person has an estate, gift, and generation-skipping transfer tax exemption of $12.06 million, although these historically high levels may revert to prior levels in 2026. The amount exceeding the exemption may be taxed at 40%, making planning critical.

Assuming an estate tax liability is created upon the death of the business owner, how will the family pay the tax? If the spouse survives the business owner, they can use the unlimited marital deduction to defer federal estate tax liabilities, until the survivor dies. If no advance planning has been done prior to the death of the first spouse to die, it would be wise to address it while the surviving spouse is still living.

Certain provisions in the tax code may mitigate or prevent the need to sell the business to raise funds to pay the estate tax. One law allows the executor to pay part or all of the estate tax due over 15 years (Section 6166), provided certain conditions are met. This may be appropriate. However, it is a weighty burden for an extended period of time. Planning in advance would be better.

Business owners with a charitable inclination could use charitable trusts or entities as part of a tax-efficient business transition plan. This includes the Charitable Remainder Trust, or CRT. If the business owner transfers equity interest in the business to a CRT before a liquidity event, no capital gains would be generated on the sale of the business, since the CRT is generally exempt from federal income tax. Income from the sale would be deferred and recognized, since the CRT made distributions to the business owner according to the terms of the trust.

At the end of the term, the CRT’s remaining assets would pass to the selected charitable remainderman, which might be a family-established and managed private foundation.

Family businesses usually appreciate over time, so owners need to plan to shift equity out of the taxable estate. One option is to use a combination of gifting and selling business interests to an intentionally defective grantor trust. Any appreciation after the date of transfer may be excluded from the taxable estate upon death for purposes of determining federal estate tax liabilities.

For some business owners, establishing their business as a family limited partnership or limited liability company makes the most sense. Over time, they may sell or gift part of the interest to the next generation, subject to the discounts available for a transfer. An appraiser will need to be hired to issue a valuation report on the transferred interests in order to claim any possible discounts after recapitalizing the ownership interest.

The ultimate disposition of the family business is one of the biggest decisions a business owner must make, and there’s only one chance to get it right. Consult with an experienced estate planning attorney and don’t procrastinate in protecting the family business for the next generation. Succession planning takes time, so the sooner the process begins, the better. If you would like to learn more about succession planning, please visit our previous posts.

Reference: Bloomberg Law (Nov. 9, 2022) “All in the Family—Transition Strategies for Family Businesses”

Photo by Amina Filkins

Category: LLC

Corporate Transparency Act May Impact Estate Planning

Benefits and Drawbacks of Family Limited Partnerships

Protect the Family Business for the Next Generation

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