What is a family limited partnership and why should you consider it as part of your estate planning strategy? Alloy Silverstein Accountant Valentina Efremova explains the basics and the tax benefits of an FLP.
A method to reduce estate taxes, which had been limited by the IRS in recent years, is now safe. This method utilizes discounting of transfers of interests in closely held entities (i.e. Family Limited Partnerships, Limited Liability Companies, and family corporations) to family members. Such “leveraged gifting” has been an extremely important, effective and common method used to eliminate estate taxes.
The family limited partnership (FLP) is a partnership to which you transfer ownership of your business or investments. Ownership of the FLP is determined by who owns interests in the partnership. You can own them all, or you can make gifts of interest in the FLP to whomever you want.
In a typical partnership, all partners are treated equally. Each partner is a “general” partner, meaning each has the same right to manage and control the partnership. In addition: each partner has full responsibility for whatever liability the other partners create in their role in the partnership.
In contrast, a Family Limited Partnership has two types of partners: a general partner and a limited partner. General partners have the right to manage and control the partnership. They invest in the partnership and make all the decisions. In turn, general partners assume responsibility for the liability the partnership creates. A limited partner, however, has virtually no rights, including: limited or no voting signs; limited or no right to control or manage the partnership; limited or no rights to income; and possibly even no right to sell interests to anyone other than other partners in the FLP.
Because limited partners have virtually no role in the management and control of the partnership, they are rarely held responsible for any liability the partnership creates. An individual can own interest as both a general partner and a limited partner.
Both general and limited partners share in the profits of the Limited Partnership. The distribution of profits from the business is called a “distributive share.” In addition, general partners may receive compensation for their role as managers of the partnership. Income is distributed to the partners according to the amount of interests they own. So, the more interests you hold as a partner in the FLP, the greater your proportion of the FLP income.
You can lower the value of your taxable estate, and pass up to $5,490,000 ($10,980,000 for a married couple) to your heirs, tax free. In 2018, the exclusions go up: $5,600,000 for individuals and $11,200,000 for married couples.
If you own an FLP, you can gift Limited Partnership (LP) interests to your heirs, and take advantage of discounting, to get even more out of your estate, tax-free. As much as $22,000,000 worth of FLP assets can be conveyed to your heirs and escape the estate tax.
You can keep your General Partner (GP) interests and still control the FLP and its assets, even if you gift all of the Limited Partnership (LP) interests.
Also, don’t forget about the annual gift exclusion, which allows you to gift up to $14,000 ($28,000 for a married couple) by the end of 2017 to as many people as you choose. In 2018, this amount will increase to $15,000 per person, $30,000 per married couple.
The law considers that assets owned by the partnership belong to the FLP partnership itself, not the partners. So, liability created by the individual actions of a partner won’t expose partnership assets to creditors. Just keep in mind, however, that liability created by the partnership will expose partnership assets to creditors.
Here is the most important fact to remember about laws governing Limited Partnerships: They protect the rights of the partners who have done nothing wrong. If the partnership itself is not at fault or has not incurred the debts, its assets are off-limits to an individual partner’s creditors. So, creditors cannot: seize partnership assets; interfere in the management of the partnership; demand a partnership distribution of income or assets; or terminate the partnership.
So if one family member should incur a personal liability, the assets of the rest of the family are protected, as long as they are owned by the Family Limited Partnership.
Partners in FLPs should consider gifting limited partnership interests in order to decrease the value of their estate for tax purposes. As long as they retain their General Partner (GP) interests, they will continue to control all assets within their partnership. You can escape the estate tax and still control the assets.
For tax planning guidance in setting up or assisting with an ongoing Family Limited Partnership, contact Alloy Silverstein today for a consultation.
Author: Valentina Efremova
Empowering business owners and individuals in South Jersey and Philadelphia to feel confident through proactive accounting and advisory solutions.
