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By the Tax Services Department

You’ve finally made the decision to become one of “those people.”  You know, the person who, as was drawing closer to retirement (and coincidently, during one of the never-ending sub-zero days of winter), decided that living somewhere south of the Mason-Dixon line  just made sense. You meticulously planned to move south to retire. But, before you settle back in the lounge chair twirling the paper umbrella as it shades your Pina Colada, you may want to ensure you have all of your assets in order.

By Tax Services Department

I once had a wealthy client who was a private business owner that wanted to gift a vacation home to his children.  Based on prior gifting, to transfer the property outright, he would have incurred a 40% gift tax rate on a portion of the value of the home because the fair market value was in excess of their remaining gift tax exemption. 

As his advisor, we had discussed his long-term financial goals and created an Ohio limited liability company so the vacation home could be deeded into the LLC.  Since the home was now an LLC asset, he had a qualified professional perform a valuation of the LLC. 

Assigning several “discounts” for the value of the LLC , when he transferred the LLC ownership to the children, he was able to reduce the fair market value of the vacation home by using a 30% discount per the valuation.  This simple planning allowed him to transfer the vacation home to his children without incurring any gift tax.

Needless to say, valuation discounts are a very important and significant component of estate planning.  The two main discounts are lack of control and lack of marketability.

Lack of Control
Typically, when ownership of a family business is gifted to family members of a lower generation, the control stays with the older generation by the use of voting and non-voting stock.  While the IRS originally maintained that valuation discounts for minority interests (lack of control) were not available, the IRS changed its position in 1993, in Revenue Ruling 93-12. 

Lack of Marketability
In addition, a discount for a lack of marketability has been allowed because the Family Limited Partnership (FLP) units are not sold in the stock or other open market and are not easily valued.  The lack of marketability discount is available because of the difficulty of selling “hard to value” assets. This opened the door for FLPs and family limited liability companies (FLLCs) to become very useful estate planning tools. 

Posted by: Michael Hermes, Tax Senior