Don’t Wait Too Long for Business Succession Planning

In August 2016, the United States Treasury Department proposed new regulations that would limit the use of valuation discounting. This is a common planning technique that has assisted individuals in executing wealth transfers for years. The premise is that a person can transfer an interest in a family-owned business at a discount so that the estate or gift tax due is slashed by a significant percentage. Another similar strategy is when relatives transfer assets into a limited partnership, LLC or other business entity and impose specific restrictions on the entity so that the gift or estate tax owed is mitigated. If the changes are made, the ability to use this technique will be severely limited.

A discount operates by reducing the cost of the business interest by not allowing the owner to vote or limiting liquidation rights. These tactics provide the justification of decreasing the value of the transferred assets. This may be done when a family member wants to share part of his or her business but realizes the limitations of this family member to currently contribute to the business. Because the family member cannot control the business or unilaterally cash out his or her interests, taxpayers reduce the value of the recipient’s share for tax purposes. However, the Treasury Department questions the prudence of this rationalization if family members can simply act together to control the business regardless of what the technical nature of the interest is.

The Treasury Department wants to close this loophole since it can create a significant tax savings that it could otherwise impose. For example, if a person owns a family business worth $20 million, he or she would owe $5.82 million in estate taxes with a current estate tax rate of 40%. This amount takes into consideration the exiting exemption amount of $5.45 million. However, if a discount can be made to transfer the business by 30 percent to $14 million, the individual would owe $3.42 million in taxes, a savings of $2.8 million dollars through simply employing this method.

If the changes are instituted, many of the reasons to discount a business interest would no longer apply, such as by allowing a discount for placing restrictions on the individual’s right to liquidate. Before the new regulations go into place, a 90-day comment period must be held and a hearing will be held on December 1. There may be additional time necessary for the regulations to go into effect. This gap in time provides a narrow window by which individuals could make existing discounts based on the current law before new regulations effectively put an end to this strategy. The new rules will not be retroactive.

The new regulations have the ability to starkly change the way that family businesses are operated and passed from one generation to the next. They can also change the way that estate plans are structured. In order to take advantage of existing rules related to making business discounts, it is critical to talk to a business succession planning attorney before the new rules become effective. At Altman & Associates, we focus exclusively on estate planning, making us skilled specialists. Our Maryland estate planning attorneys are experienced counselors and compassionate confidants, helping you plan for the future. We have convenient office locations in Columbia and Rockville, as well as in Northern Virginia. Contact us by phone at (301) 468-3220 or online to schedule a consultation.