Reducing estate tax liability is getting more complicated.
A very significant thing has recently happened regarding estate taxes. The significance of this change is far-reaching; the agent that grasps this will be far ahead of the competition. Not only will this rule change make a huge difference in how estates are handled regarding estate tax liability, but it also opens the door for agents specializing in annuity concepts.
First, I’d like to explain to you. This is a problematic issue to understand fully, so let me start with a tip and the general concept.
TIP: Never do this alone; always seek competent, licensed, and authorized professionals before considering Estate Planning issues. Rules and regulations change; always ask for and carefully review any second opinion. I am not an attorney; I simply provide general information based on this particular period time.
If you have an asset held privately (such as a farm), the value of the farm as a whole would be more than the farm valued in unseparated shares. In simpler terms, a privately held asset does not have the same value when broken down into shares and the entire purchase. That concept was the basis for devaluing an asset when determining the overall value and the ultimate estate tax liability. Average estate tax liability planning would use a 40% devaluation in the purchase. This devaluation was widely used and accepted by the estate planning community.
Often the actual tool used to place the shares of the asset was known as Family Limited Partner (FLP). This process was taught to CPAs, estate planning attorneys, and in law schools.
Here is an example of how it was done. Assume a family-held asset (business, real estate, farm, etc.) valued at $100,000,000. If the asset owner died, tax liability would be about $40,000,000 (estimate). An FLP allowed the asset to be placed in the partnership still owned by the original owner (let’s pretend it is mom and dad). As sole owners, they name themselves the general partner of the FLP, and the general partner is the boss regardless of what percentage is owned. The FLP then devalues the asset to (40-50%) and gifts shares of the partnership to their children using their lifetime and annual gifting. ($11.15 million lifetime each and $17,000 annually per gift per owner). Over time, 99% of the non-general partnership assets that have been legally and without tax liability have been transferred to the children.
Mom and dad are still 100% in control since they are the general partner; now they die. Their valuation has dropped from $100,000,000 to 50% of 1%. Their estate tax liability is nil. After their death, the children can end the partnership or continue it; up to them. They vote on a new general partner.
That is how it has always been done. The IRS has allowed this an accepted practice.
A couple of years ago, the IRS announced closing this discounting process and the lowered gifting valuation as a loophole. Remember, the IRS does not need congressional approval to make this change; it can be done as a regulatory action. To counteract the process, an individual lawsuit would be initiated via an estate planning partner, and the whole issue would go to tax court. The simple fact the IRS is closing the loophole as regulatory action should signal the demise of this long-time and accepted practice.
Here is their announcement: The U.S. Treasury Department has issued a new regulatory proposal that would “close a tax loophole that certain taxpayers have long used to understate the fair market value of their assets for estate and gift tax purposes,” according to Mark Mazur, the Treasury’s assistant secretary for tax policy.
“It is common for wealthy taxpayers and their advisors to use aggressive tax planning tactics to artificially dispose of the taxable value of their transferred assets. By taking advantage of these tactics, certain taxpayers or their estates owning closely held businesses or other entities may end up paying less than they should in the estate or gift taxes.”
Traditionally, ownership restrictions, such as on liquidation, voting rights, or control, can provide the ability to take a minority interest discount to reduce the value of the property for estate tax purposes when the ownership interest is being transferred.
The proposed regulations aim to curtail this loophole. The next step is a 90-day comment period, evaluating those comments and then implementation.
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