The IRS may be close to issuing new regulations on valuation that could significantly increase transfer tax costs. As a result, it is prudent for families who are contemplating gifts of family entity and limited partnership interests to make the gifts now, while the valuation discounts are still available.
Catherine Hughes, an Estate and Gift Tax Attorney Advisor in the Office of Tax Policy of the US Treasury Department, speaking at a recent meeting of the ABA Tax Section, said that the IRS will be issuing regulations in the summer or fall to restrict or eliminate valuation discounts on transfers of interest in family-owned entities. The IRS will be issuing the regulations after Congress failed to act on a Treasury recommendation to make statutory changes to restrict or eliminate valuation discounts.
Current law allows taxpayers to transfer minority interests in family entities to family members at a significantly reduced transfer tax cost with the use of valuation discounts. Section 2704 of the Internal Revenue Code, provides that if an interest in a family-controlled entity is transferred to a family member, any “applicable restriction” is disregarded in valuing the transferred interest. An “applicable restriction” is defined as a restriction that limits the ability of the entity to liquidate, and the restriction lapses after the transfer, but excludes “any restriction imposed, or required to be imposed, by any Federal or State law.”
The new regulations may add an additional category of restrictions that may be disregarded in determining the value of interests in family controlled entities transferred to family members. The regulations may limit the availability of minority ownership and lack of marketability discounts and revive the concept of the family attribution under the pretext of limiting liquidation and other restrictions. In addition, the application of the new rules may be limited to holding entities, with an exemption for operating entities.
Because the new regulations are likely to become effective for any transfers occurring after enactment, now is the time to act. This is especially important for taxpayers with significant wealth tied up in liquid assets that would normally be transferred through partnership or LLC structures.