Can a Family Limited Liability Company Reduce Estate Taxes?
Family LLCs are used to protect assets, reduce estate taxes and more efficiently shift income to family members, reports the article “Handling Estates Like An LLC Can Reduce Taxes” from Financial Advisor. The qualified business income and pass-through entity tax deductions may add significant benefits to the family.
What is a Family LLC? They are holding companies owned by two or more individuals, with two classes of owners: general partners (typically the parents) and limited partners (heirs). Contributed assets of the general partners are no longer considered part of their estate, and future appreciation on the assets are not counted as part of their taxable estate.
Consider the LLC as three separate pieces: control, equity and cash flow. Because of the separation, you can maintain control of the personal/business assets, while at the same time transferring non-controlling equity of the assets to someone else via a gift, a sale, or a combination of the two.
An added benefit—transfers of non-controlling equity can qualify for a discount on the value for tax reporting, minimizing any gift or estate tax consequences of the transfer. Discounting business entities with very liquid assets is generally not advisable. However, illiquid assets could warrant a discount as high as 40%.
For example, if your estate is worth $15 million, $3 million of your estate would be subject to the estate tax (because the federal exemption is $12 million), resulting in an estate tax of up to $1,200,000 ($3 million X 40% federal estate tax). If your property was in a family limited liability company, your estate could get a discount of up to 40% of the value of your estate. In this case, if your $15 million estate was discounted 40%, down to $9,000,000 ($15,000,000 estate X (1 – 40% Estate Tax Rate), you would have no estate tax.
These types of structures are complicated. Therefore, you’ll need an estate planning attorney with federal tax experience. Particularly, the attorney needs to know how Family LLCs interact and the federal estate tax law works with estate planning. The LLC must be properly structured and have a legitimate business purpose.
An ancillary benefit to a family LLC is that they can be used as a vehicle to protect your family’s assets (an asset protection purpose), and in addition, they can be used as a vehicle to pass family assets intact to the next generation (an estate and wealth preservation purpose).
It’s important to note that if a real estate or operating business is put into an LLC and taxed as a pass-through entity instead of a sole proprietorship, they may be eligible for the 20% discount under Section 199A, or for the pass—through entity tax workaround for the limitation of the deductibility of state taxes for individuals and trusts.
Every state has its own rules about income qualifying for a state income tax deduction on the federal level. If you have an entity in place, you’ll want to speak with your attorney to determine if a pass-through entity on the state level will be advantageous. If so, this election may allow for a state income tax deduction on the federal level.
Your estate planning attorney will help you get a qualified appraisal of the assets, since the IRS will require an accurate value of the transfer for reporting purposes, especially if a discount is being contemplated. This is a complex matter, but the estate planning and tax advantages to be gained make it worthwhile for families with a certain level of assets to protect.
BOOK A CALL with me, Ted Vicknair, Board Certified Estate Planning and Administration Specialist, Board Certified Tax Law Specialist, and CPA to learn more about estate planning, incapacity planning, and asset protection.
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Reference: Financial Advisor (April 4, 2022) “Handling Estates Like An LLC Can Reduce Taxes”