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H&A Wins Self Dealing Penalty Abatement
The IRS confronted our client with an assessment of over $700,000 in self dealing transaction penalties under Internal Revenue Code Section 4941 for its dealings with a private foundation. H&A obtained a full abatement of the assessed penalties through hard work, creative thinking, and attention to detail. This was a collaborative effort by our tax controversy team and is a testament to the wide ranging skills and knowledge offered to our clients.
Please call or email Hoffman & Associates today, and let us know how we can help you.
404.255.7400
Amend Your FLP’s and FLLCs for Fisher/Price
Many of our clients have created family limited partnerships (“FLPs”) and Family Limited Liability Companies (“FLLCs”) for a variety of business reasons. Often, they will gift interests in those entities to children, grandchildren, or trusts set up for their descendants. If they want to avoid using their lifetime gift exemption (currently $1 million dollars) or if they have no lifetime gift exemption remaining, they will gift an amount equal to the annual gift tax exclusion for that year (currently $13,000 per donee). For example, a mother and father could gift $26,000 worth of limited partnership interest to each of their children without using any of their lifetime gift tax exemption.
In order to qualify for the $13,000 annual exclusion, the gift must constitute a present-interest gift. Unfortunately, several recent court cases have come out which have determined gifts of FLLC interests were not present interest gifts. First, in Price v Commissioner, T.C. Memo 2010-2 (January 4, 2010), gifts of limited partnership interests by parents to their three children did not constitute present interest gifts because there was no immediate enjoyment of the property gifted. The recipients had no ability to withdraw their capital accounts because they could not sell their interests without the written consent of all other partners. Further, there was no enjoyment of income because there was no regular flow of income from the partnership and the distribution of profits was at the discretion of the general partner.
Similarly, in Fisher v. United States of America, Docket #1:08-cv-0908-LIM-TAB, (March 11, 2010), a U.S. District Court in Indiana recently ruled that gifts of LLC interests were gifts of future interests, not present interests and, therefore did not qualify for the annual exclusion because the LLC held undeveloped land and there was no prospect of current distributions. The LLC at issue owned undeveloped land, and the IRS successfully argued that the children’s right to receive distributions of the LLC’s capital proceeds was contingent on an unknown future event (the sale of the land). As such, there was no present interest gift.
There are several ways to minimize the risk associated with this issue. First, clients should use right of first refusals rather than an outright prohibition on transfers of limited partnership interests. Most partnership and LLC agreements currently have these transfer restrictions and should be amended to take them out. Second, partnership agreements should be reviewed to make sure donees are not mere assignees. Mere assignees have limited rights and the Court in Price concluded gifts of assignee interests could not be present interest gifts. Third, the partnership agreement should be amended to provide an enforceable standard for distributions of income or require distributions of net cash flow (defined to include discretion for reserves). If possible, partnerships should also make distributions each year. Finally, the general partner should have a fiduciary duty to limited partners regarding distributions. While incorporation of all of these items might not prevent an IRS attack, doing so will ensure strong arguments should the IRS raise these issues on audit.
To address some or all of these items in your partnership or LLC agreement, please contact us.
Proper Planning and Management Critical For FLP’s
Proper planning and hands-on management are critical to reduce the risk of IRS scrutiny on a family limited partnership or family limited liability company (hereinafter collectively referred to as “FLP’s”). A litany of cases exist as cautionary tales for what can go wrong without them. Estate of Shurtz v. Commission, T.C. Memo 2010-21, Docket No. 6076-07, decided on February 3, 2010 shows what they can accomplish when implemented properly. The estate planning undertaken in Estate of Shurtz transformed what was once a $9 million estate into an estate where no estate taxes were owed.
In Estate of Shurtz, the decedent formed multiple FLP’s and gifted fractional interests to her descendants or trusts for the benefit of her descendants over the course of years. The FLP’s were formed for valid business reasons, asset protection, management efficiency, and protection of family business from litigation. The partnership kept detailed financial records, issued K-1s, and filed Form 1065 every year. Additionally, the partnership held detailed annual meetings to discuss business strategies and its financial positions.
The IRS argued that the assets contributed to the FLP should be included in the decedent’s estate without discount under IRC Section 2036. IRC Section 2036(a) requires estates include assets wherein the decedent retained “the possession or enjoyment of, or the right to the income from, the property”. An exception exists to 2036 for the case of a bona fide sale for adequate and full consideration or money’s worth. The Estate countered that the bona fide exception applies and no estate tax was due.
The Court agreed with the Estate on all counts. First, the Court stated that the partnership was formed for legitimate non-tax reasons, meeting the bona fide sale exception. Further, the Court found the full and adequate consideration portion was satisfied because the partnership’s books properly created and maintained each partner’s capital account and distributions were properly distributed to partners. Since the Court found the bona fide sale for full and adequate consideration exception was satisfied, the fair market value of the assets contributed to the partnership were not included in the decedent’s gross estate.
Every step in the process from formation until after a person’s death is critical when creating an FLP. Where a legitimate business purpose or the proper documentation and management are lacking, problems with the IRS may arise under 2036. Where, as in the Estate of Shurtz, all steps are thoughtfully navigated, the ability to avoid and successfully defend an IRS challenge increase exponentially.
If you would like to discuss your FLP and how to best manage its affairs, please contact us.
New Georgia Trust Code
Governor Perdue has signed Senate Bill 131 which enacts a new Trust Code for Georgia. The Trust Code will go into effect July 1, 2010. Please click here to see Senate Bill 131.
Governor signs Senate Bill 461
Governor Perdue signed Senate Bill 461 on May 28, 2010, making the provisions thereof retroactive to January 1, 2010. As discussed, the law allows married Georgia residents to utilize the entire step up in basis provided under the current estate tax laws without modification to current documents.
If you have any questions about this law or how it affects your estate plan, please give us a call.