Because John’s ultimate desire is to transfer a portion of his sole proprietorship to his two
children Cindy and Luke, for the purpose of keeping some if not all the business’ wealth
within the family line for more than just his generation, I would propose to John a plan for
the restructuring of his estate asset: the machine shop worth $10M to go from being solely
owned to being a Family Limited Partnership in Trust (even if only temporarily). This allows
room for both John and his children to experience the new ownership statuses without the
full tax responsibilities being fully enacted all at once.
And it gives room for the life of the new entity to grow with John’s descendants as needed.
Starting with a 60/40 split for its first year or two, with review and adjustment set by its
third, for the life of the Trust. Thus, reducing John’s yearly tax liabilities and if accepted,
slowly introducing those liabilities to his children based on their agreed allocations.
John, as a Priority Limited Partner, would be assigned 60% of the business interest carrying
the majority control and voting rights to start, with the agreement that upon his death the
full 60% would be transferred to the Trust in whole to be allocated equally between all his
surviving decedents with follow Priority Limited Partners receiving a greater %. John would
also be designated as the General Partner because he currently continues to handle and
oversee the shops’ day-to-day operations (Fritz).
6 months after the Trust creation I would take the remaining 40% and proceed in
transferring the initial gifts towards Cindy and Luke with a 75/25 split between the Trust and
them. Assigning both Cindy and Luke as Limited Liability Partners in Interest with the value
of $500,000 each, representing just 10% of the total Trust, or 5% each. Working with the
assumption that less than half of John’s lifetime unified credits have been used thus far,
allows the first year of ownership to have zero tax liabilities on Cindy and Luke. By taking
this time and having the yearly tax documents properly reflect ownership changing hands,
the associated valuation discounts will less likely be inaccurate and FMV can easily be
assessed and realized in all transfer agreement documentations (T&E Adm).
And in year two transferring another 5% each if both Cindy and Luke have agreed to the
terms of the Family Trust, redesignating them Priority Limited Partners as original members
by the end of year three, resulting in 15% each ownership, with the remaining 5% being
allocating in year five (if not sooner). I understand that during the first 2-3 years John may
have to deal with an additional tax return for the Trust itself as it owns partial interest not
yet allocated. But through c c
By properly documenting the transfers, the dates of ownership and giving the new owners a
chance to see what best options may exist outside of the current plan, both the financial
advisors and the John family are given the opportunity they need to explore the estate’s
asset transferring in all aspects. Setting up a plan that does not give room for change or
growth can be bound to fail without proper review and thorough examinations before
agreements/creation take place because depending on the size, these decisions carry with
them sizable tax liabilities. It’s during the creation period that all facets of the transition can
be explained and detailed.
For example, what if both Cindy and Luke enjoy the additional income from the shop but
never want to run its daily operations, this time allows them to explore all possibilities. Like
what liabilities would result from them debating for several years on whether they want to
sell it off, especially if its value drops by 15%. Or if several years after John’s passing and
selling off about 35% of the shop, Luke’s oldest son Jake decides that he wants to carry on in
his grandfather’s footsteps. Having that remaining 65% interests carries with it the
nepotistic ability to appoint Jake with a high controlling position within the business. None
of which would be possible if during the first few years the instant pressure of an unfamiliar
ownership caused both Cindy and Luke to turn down their respected interests in the shop
and choose to liquidate (most likely at an unvalued sales price) instead.
References:
Anderson, K.E., Pope, T.R. & Rupert, T.J. (2023) Taxation 2023 Corporations, Partnerships,
Estates & Trusts Pearson. (Chptr 2 – Limited Partnerships)
Fritz, F.P.C. (2018) Family Limited Partnerships – They’re Still Out There?
https://www.taxlawforchb.com/2018/10/family-limited-partnerships-theyre-still-out-there/
T&M Admin (2023) Understanding Serious Mistakes and Planning Implications in the Smaldino Tax Court Case
https://actecfoundation.org/podcasts/smaldino-tax-court-case/
