The family limited partnership ("FLP") has become an attractive vehicle to manage family assets, provide some protection from creditors, and reduce federal gift and estate taxes. A typical FLP involves a contribution of assets by a parent or parents to a newly formed limited partnership. The parents retain the general partnership interest. As general partners, they control the investment and management of partnership assets; they can also exercise significant practical control over partnership cash flow. The parents then give all or a portion of the limited partnership interests (which represent most of the equity of the partnership) to younger generation family members (or to trusts for their benefit). The certificate of limited partnership and the partnership agreement generally provide significant restraints on the ability of the limited partners to transfer their partnership interests to outsiders.
For estate planning purposes, since the limited partners cannot participate in the management or control of the partnership or its assets, and since the limited partnership or its assets, and since the limited partners cannot freely sell or otherwise "cash in" their interests in the partnership, the value of the limited partnership interests will appropriately reflect valuation discounts for lack of control and lack of marketability. Thus, although a limited partner may have, for example, a 10% equity interest in the FLP, the value of that interest is worth substantially less than 10% of the value of the assets owned by the FLP. Discounts of 35% or greater have been supported.
Treasury Regulations were issued on December 29, 1994, dealing with certain partnership income tax issues (under Internal Revenue Code Section 701). These regulations also purportedly allowed the IRS to disallow the valuation discounts for estate and gift tax purposes if the limited partnership interests were transferred immediately after the FLP was created. This aspect of the regulations had not been included when they were issued in proposed form earlier in 1994.
The regulations came under sharp and immediate attack from the estate planning community; many thought that it was inappropriate for the IRS to regulate gift and estate tax matters in an income tax regulation. On January 23, 1995, perhaps in reaction to this furor, the IRS withdrew that portion of the regulations dealing with estate and gift tax valuation issues.
Good estate planning opportunities (including discount valuations) will therefore continue to be available through these partnerships under present law. We will, of course, continue to monitor IRS rule-making in this area.
