Family Limited Partnership Discounts May Be at Risk in the Future

The IRS enacted in 1990 Internal Revenue Code Section 2704 to eliminate what was considered to be valuation abuses in family asset transfer transactions. The overall goal of this code section was to require the valuation analyst to ignore any provision in agreements that transferred a partnership interest or privately held stock interest to family members that would not be accepted by an unrelated third party in an arm’s length transaction.

However for taxpayers involved in these type of transactions, Family limited partnership federal tax court cases have determined that IRC Section 2704 arguments by the IRS attempting to enforce these provisions are not always valid and that these entities should be valued like other business interests when:

  1. The family limited partnership has a defined business purpose and is not merely a device to avoid taxes.
  2. Restrictions on partners comply with state law.
  3. The family limited partnership articles are followed in actual practice by all partners.

The IRS, in an effort to bolster its arguments against allowing discounts in family asset transfers, is in the process of proposing new IRC Section 2704 Regulations that may restrict or eliminate all discounts for transfers in family owned entities to family members. The major concerns among valuation practitioners is that these proposed regulations when issued may severely limit or eliminate the currently available lack of marketability and minority ownership discounts. It is anticipated that these proposed regulations will be issued in the fall of 2015.

It is recommended that any family group that is considering forming a family limited partnership should do so sooner than later to avoid family member transfer restrictions that would be in the proposed regulations when issued.

Should you need business valuation assistance or have questions, please call one of our credentialed professionals at (615) 822-8342 or contact us via email.