Family Limited Partnerships (“FLP”) have been a great estate planning tool for many years. FLP’s can enable a family to shift significant assets and income to children or grandchildren at a very high discount. The discount can range from 25% to 50% depending upon the type of assets in the partnership. Therefore, it should come as no surprise that the IRS dislikes FLPs and sometimes examines very carefully the valuations used for gifts and in estates.
When the IRS finds an FLP that looks abusive, it will do its best to attack the tax planning used by the family. The IRS found such a partnership in Holliday V. Comm’r, a 2016 tax court case. In the Holliday case, the IRS was successful in bringing the entire partnership back into a parent’s taxable estate as if the FLP did not exist. In Holliday, this meant that the decedent’s 89.9% interest in the FLP was ignored and she was treated as owning 100% of the FLP at her death. Also, the 40% discount the estate took on the value of the FLP on her estate tax return was eliminated. Instead 100% of the value of the FLP’s assets were subject to federal estate tax.
Some of the mistakes this family made were (i) the formation of the FLP, funding of the FLP, the transfer of the general partner interests to the decedent’s children and the gifts of limited partnership interests were all made on the same day, (ii) the partners never held partners’ meetings, (iii) the general partner was not paid for managing the FLP, (iv) the FLP made only one distribution instead of regular annual distributions, (v) the court could find no “non -tax reason” for the FLP, (vi) the court was convinced there was a deal to hold the money in the FLP for the parent just in case she needed it during her lifetime and (vii) the FLP was formed by the son using a power of attorney after his mother (the decedent) went into a nursing home. This combination of bad facts resulted in a FLP being disregarded and brought back in the parent’s estate when she died.
What to do if you have a FLP and want to preserve the value for your family? The following is a partial list: (i) have annual meetings of the partners, (ii) pay some modest compensation to the general partner, (iii) make annual distributions to all of the partners, (iv) wait at least 6 months after formation of the FLP to transfer any portion of the parent’s interest to children or trusts and (v) don’t wait until the parent is in a nursing home. And just because you made gifts of FLP interests and filed a gift tax return, you still need to follow these guidelines. Otherwise there is a risk of the FLP being brought back into one’s taxable estate and the loss of substantial discounts on the assets. It is an excellent idea to have an annual checkup of your FLP to see how it complies with the tests that the IRS now is using to evaluate FLPs. Please give us a call to review your FLP or to help you take advantage of a fine estate planning tool when used right.
Please feel free to contact Alan Mittelman 215-241-8912 or firstname.lastname@example.org if you have any questions.