United States

Updates to valuation discounts for related party transactions


In the process of estate planning, timing is sometimes one of the most important aspects of an effective plan. As a part of assisting our clients and fellow professionals in this process, we want to bring several potential changes that are on the horizon to your attention.

We understand that the U.S. Treasury is close to issuing Regulations which would decrease or eliminate valuation discounts for related party transactions (e.g., transfers, sales, or gifts to family members or to trusts for family members). These potential Regulations under IRC Section 2704(b)(4) are expected to come out imminently and were tentatively set to be released no later than Labor Day.

The legislative history regarding this issue arises from the Obama administration's 2009 proposal. The specific target of the administration was taxpayers who funded LLCs and FLPs with liquid assets. The subsequent gift or sale of the LLC or FLP interest allowed the taxpayer to take valuation discounts that were not otherwise available if the liquid assets were given or sold directly.

An exception previously broached by the administration has been for the transfer of a "special asset," such as real estate or closely-held business interests. In essence, there is both hope and expectation that related party valuation discounts will still be available for "special assets." Unfortunately, the verdict on this issue is still unknown.

Even if "special assets" are afforded an exception to this rule, there are concerns with the valuation of "blended assets" (for example, a closely-held business interest holding substantial liquid assets). Will these types of assets qualify for the exception either totally or partially, or will the liquid asset holding completely disqualify the blended asset for valuation discount purposes? Again, we will need to wait and see. In any case, making gifts before these changes to the tax code are finalized will potentially enable them to be handled under the current, "more favorable," provisions of the code.

Another potential game changer involving gift and estate valuations of flow-through entities (i.e., S corporations, LLCs) is the recent finalization of an IRS Job Aid for IRS Valuation Analysts titled "Valuation of Non-Controlling Interests in Business Entities Elected to be Treated as S Corporations for Federal Tax Purposes." This Job Aid was published by the IRS to provide internal guidance on specific valuation issues relative to S corporations, but is also applicable to other entities that don't pay taxes at the entity level. The guide suggests major changes in the tax considerations for these flow-through entities from current best practices in the valuation and appraisal industry that would increase the value of most ownership interests in these entities. This could have significant implications for equity holders in these entities; these implications need to be considered in estate planning.

The positions advocated in this new Job Aid have not directly been tested in tax court yet, but given the widespread use of these types of entities, it is only a matter of time before this issue comes under fire. There are already strong responses to this Job Aid being made by widely published authors and practitioners in the valuation and appraisal industry, indicating that this will be a hotly contested area in the future. It will undoubtedly take some time for the examiners within the IRS to absorb this information and determine how it will be applied. We suggest that getting out ahead of the implementation of any significant changes related to this issue is the best strategy.

For more information and assistance with your estate and gift tax valuation needs, please contact our valuation professionals at your convenience by calling 800.274.3978. At RSM, we have valuation specialists that can help provide the analysis and information necessary to carry out your plan promptly.

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