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Business Law

CLIENT ADVISORY BULLETIN

The Department of Treasury’s recently issued Proposed Regulations under Section 2704 once they become final would adversely impact the estate planning for some business owners by eliminating certain valuation discounts as well as reducing the ability to leverage the maximum amount of assets out of harm’s way due to divorce, lawsuits or other claims.

Proposed Regulations Recently Issued: The Department of Treasury (“IRS”) recently issued Proposed Regulations that could have a dramatic impact on your estate planning by eliminating valuation discounts. For high net worth individuals looking to minimize their future estate tax, this is critical. It can also be important for others as well. If you are concerned about protecting a family business from the risks of future divorce, or protecting your assets from lawsuits or other claims, discounts can enable you to leverage the maximum amount of assets out of harm’s way, without triggering a gift tax to do so. 

Act Now: Time is of the essence. Once the Proposed Regulations are effective, which could be as early as year-end, the ability to claim discounts might be substantially reduced or eliminated, thus curtailing your tax and asset protection planning flexibility. 

What are Discounts Anyway? Here’s a simple illustration of discounts. Tom has a $30M estate which includes a $15M family business. He gifts 40% of the business to a trust to grow the asset out of his estate. The gross value of the 40% business interest is $6M.  Since a minority 40% trust/shareholder cannot force a sale or redemption of its interest, the non-controlling interest in the business transferred to the trust is worth less than the pro-rata value of the underlying business. Thus, the value should be reduced to reflect the difficulty of marketing the non-controlling interest.  As a result, the value of the 40% business interest transferred to the trust might be appraised, net of discounts, at $3.6M. The discount has reduced the estate by $2.4M from this one simple transaction. 

Election Impact: If the Democrats win the White House and the Democratic estate tax proposals discussed below are enacted, the results will be devastating to wealth transfer planning. Pundits have prognosticated that a Democratic White House could affect down-ballot races and flip the Senate to the Democrats. The Democratic tax plan includes the reduction of the estate tax exemption to $3.5M, elimination of inflation adjustments to the exemption, a $1M gift exemption and a 45% rate. The Democratic plan will most likely include the array of proposals included in President Obama’s Greenbook which seek to restrict or eliminate GRATs, installment sale transactions to grantor trusts, and more. Wealthy taxpayers who don’t seize what might be the last opportunity to capture discount planning, might lose much more than just the discounts. They might lose many of the most valuable planning options. 

Not a 2012 Boy Who Cried Wolf: Many of you might remember the mad rush to plan in late 2012 on the fear that the gift, estate and generation skipping transfer (GST) tax exemption might be reduced from $5M to $1M in 2013. After many incurred significant costs and hassles in implementing planning quickly, that change never occurred. For those who might be affected by discounts, the situation in 2016 seems vastly different. The Proposed Regulations could be changed and theoretically even derailed before they become effective. The more likely scenario is that they will be finalized after public hearings and the ability to claim valuation discounts will be severely curtailed. If you do undertake planning, be cognizant of an important lesson from much of the planning that was done in 2012. Consider using planning techniques that assure you (or if you are married, your spouse) access to funds transferred in the discount planning. The main regrets in 2012 planning were for many of those who transferred assets out of their own reach. 

What You Should Do: Contact your planning team. A collaborative effort is generally essential to have your planning done well. Your estate planning attorney can review strategic wealth transfer options that will maximize your benefit from discounts while still meeting other planning objectives. Projections completed by your wealth manager or other financial advisor could be essential to confirming how much planning should be done and how. Your CPA will have vital input on wealth transfer options, federal and state income tax implications, and more. Your insurance consultant can show you how to use life insurance to backstop some of the planning strategies, in coordination with the financial forecasting done by your wealth manager, or financial advisor to maximize both the tax benefits and your financial security. 

Options to Consider: If estate tax minimization is a primary objective, then the following options should be considered: (i) if there is already an existing entity such as a corporation, limited partnership or limited liability company, then gifts of the equity interests to various types of your irrevocable trusts, including spousal access trusts of which one of the spouse’s is the primary beneficiary, should be considered, (ii) installment sales of the equity interests to an irrevocable trust that is a grantor trust for federal income tax purposes, or (iii) if there is not already an existing entity, then a family limited partnership or a family limited liability company could be formed so that the type of discount planning described in clauses (i) and (ii) immediately preceding could be implemented.

If asset protection is a primary objective and there is not already an existing entity, then a family limited partnership or a family limited liability could be formed so that discount planning could be used to maximize the amount of property that would be given away to a trust that was designed for asset protection, which would include a spousal access trust.

It is likely our fourth quarter will be very busy helping clients who want to take advantage of the discount planning opportunities that are currently available so do not delay if you want to implement discount planning before the Proposed Regulations become effective.

 

I would guess that for the vast majority of the people who moved to The Woodlands some of the  primary reasons  were to enjoy a quieter life style the hustle and bustle of Houston could not provide and a better place to raise and educate a family.  It is also a certainty people did not move here to encounter horrid  traffic problems that make it difficult to get into and leave The Woodlands.  Over time, the amenities The Woodland has to offer has caused more and more people to move here,  while at the same time overwhelming an infrastructure that is clearly inadequate for the existing population let alone the additional residents and businesses that will be arriving. 

Whether you are for or against more growth, steps to solve the infrastructure problems must be implemented soon because traffic on the roadways is only going to get worse as is the parking situation at Town Center.  Why has the traffic situation gotten so out of hand in The Woodlands and numerous other areas in Montgomery County?   A lack of leadership in  various levels of government,  a misplaced focus of certain special interest groups, and voter apathy! 

It is my understanding that the last successful bond issue for roads in Montgomery County was over ten years ago.  How is that possible given the dramatic growth in South County, which affects all of Montgomery County to some degree?  A lack of political will has allowed the traffic situation to get out of hand.  A bond package for adequate roads should have been a recurring ballot item until it passed—but that approach was not taken and here we sit in ever increasing traffic.   Finally, the Commissioners have approved a bond proposal—one that is not large enough and does not allocate enough money to The Woodlands—but at least a step in the right direction. 

The response—a divided community in which opponents of the current proposal are willing to try to secure its defeat because of the controversy over the extension of The Woodlands Parkway to Highway 249.  Yes, it would have been much better to increase the size of such parkway going East too, but Rome was not built in a day and neither will be all of the necessary road additions.  Common sense screams that construction on new roads must start sooner rather than later or the gridlock will become much worse—both coming into and leaving  the Woodlands. 

If anyone needs a history lesson about the effect of a  policy of not building roads to try to keep people out, one only has to look at Austin.  A great city that is overwhelmed by traffic with no meaningful plans in place to  begin to solve the traffic problem.  If you want the gridlock in The Woodlands and the rest of Montgomery County to increase, then oppose the bond issue.  If you want to start to improve mobility, then vote for the bond proposal and let your elected officials know the current proposal is only a good start and much more infrastructure is needed to solve the traffic and parking problems.

       Today, nearly all successful businesses have websites. As part of the process of building a website, most companies hire an attorney experienced in contracts and business law to draft “Terms of Use” that govern the relationship between the company and any users of its website. These Terms can be extremely important, and can govern everything about the conduct of the user on the website such as IP ownership clauses and licenses, as well as limitations on damages, forum selection clauses, mandatory arbitration, and class waivers in the event of a legal dispute or lawsuit between the parties.