IRS Regulation to Limit Valuation Discounts on Family Businesses Entities?

Limited partnerships and limited liability companies, otherwise known as family business entities, provide many distinct advantages, including:

• Centralized wealth management
• Streamlined tax reporting
• Protection from creditors
• Divorce protection
• Easing transfer of assets after death
• Valuation discounts

This last advantage, valuation discounts, is set to change due to a recent IRS regulation. Valuation discounts provide discounts when shifting wealth and assets from one generation to the next.

Valuation Discount Benefits Changing

Attempts to change valuation discounts have been frustrated in the past, but it seems this time they’ll make their way through the legislature. The current valuation discount rules reduce the gift and estate taxes in cases of inheritance. When younger generations do not receive ownership rights of particular assets, but merely control a fractional interest in them, the level of interest is reduced because the interest-holder cannot convert the assets into cash. Valuation discounts are also applied when the younger generation does not have management or voting rights in the entity.

What are the Effects of the New Regulations?

§2704(b)(4) of the Internal Revenue Code gives the IRS broad discretion to determine the value of a business interest transferred to a family member. It seems that the IRS will create new categories of restrictions that will reduce or eliminate valuation discounts on various kinds of entities. The fear is that valuation discounts will become obsolete with the new rules in place. If this is the case, companies will have to find new ways to position their companies for the best tax protection.

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