Friday, March 6, 2009

H.R. 436

A few advisors that I work with have asked me to give my opinion on one of the proposed bills in the House of Representatives (HR 436) and specifically on the proposed changes to transfer tax valuation rules contained in the bill.

You can find the proposed text of the bill here:

While the bill does propose changes to the estate tax exemption amount, the proposed changes to the valuation rules are on the minds of many advisors. If you look at the Bill, it states,

"In the case of the transfer of any interest in an entity other than an interest which is actively traded (within the meaning of section 1092)

(A) the value of any nonbusiness assets held by the entity shall be determined as if the transferor had transferred such assets directly to the transferee (and no valuation discount shall be allowed with respect to such nonbusiness assets), and

(B) the nonbusiness assets shall not be taken into account in determining the value of the interest in the entity."

The first item to consider is what is a transfer "in an entity" and second, the issue of eliminating valuation discounts. The first issue is explained simply by pointing to many different kinds of estate planning techniques that advisors have used in the past and are currently using today. These vehicles for transfer planning are generally called family limited partnerships, family limited liability companies, or some other type of business entity owned primarily by one member of a family who begins gifting or selling those interests to younger individuals in the same family.

The second issue is the lack of valuation discounts for these types of transfers. In the past, the value of the business interest that was transferred could be reduced under several theories. These theories are usually discounts for lack of marketability (as closely held business interests generally do not have a market in which they are bought and sold) and lack of control (as the interest that is transferred by gift or sale is usually a minority interest).

The good news is that this bill has not yet been passed in the House of Representatives, but it continues to gather support from Representatives across the country. The bad news is that if this bill passes, then many estate plans or planning techniques that have used a family entity (Limited Liability Company or Limited Partnership) may lose their effectiveness for transferring future interests. If this bill passes, it is unlikely that it would have any kind of retroactive effects upon transfers, but any future transfers would be subject to the bill itself.

Based on this, I am recommending to my current clients that have family entities to consider completing their gifts or transfers before this bill is passed into law, or if they are not comfortable or able to conclude these transfers at the present time, to understand that future estate planning will be needed to eliminate any additional estate taxes based on the elimination of these discounts. If you or any of your family members or friends have been using a family limited partnership or family limited liability company to transfer wealth, it is as important now as it ever has been to make sure all of the administrative requirements are fulfilled (proper valuations of the interests, gift tax returns filed on an annual basis, interest payments made on installment sale promissory notes to trusts for the benefit of family members, etc.) and to continue to speak to your advisors about this Bill to find out if it passes in the future.

If you have one of these kinds of entities and you are uncertain as to whether or not you have been handling the administrative aspects of the entity correctly, or if you have questions about this proposed bill or any other estate planning question, do not hesitate to contact me.

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