By: Rick Hurt, Frank Cordero, and Bill Sullivan of Akerman Senterfitt
Congress passed the Tax Relief, Unemployment Insurance Reauthorization, and Job Creation Act of 2010 (the 2010 Tax Relief Act) and sent it to the President for signature. The 2010 Tax Relief Act extends Bush-era tax cuts for two years and provides significant estate tax and alternative minimum tax (AMT) relief. The bill also contains other tax incentives for businesses and individuals, including 100% first-year write-offs of qualifying property placed in service after Sept. 8, 2010 and before Jan. 1, 2012, a payroll/self-employment tax cut of two percentage points for 2011 for employees and self-employed individuals, and extensions of other tax incentives for businesses and individuals.
Estate, Gift and Generation-Skipping Tax Changes
The proposed change in federal estate taxes includes an increase in the exemption to $5 million and a reduction in the tax rates applicable above the exempt amount to 35%. In 2009 the exemption was set at $3.5 million and the rate of tax was 45%. For 2010 the estate tax provisions are not effective, but in 2011 without passage of a new law the exemption reverts to $1 million and the maximum rate increases to 55% with a 5% surcharge on estates from $10 million to $22 million.
With the changes the gift tax exemption will be reunified with the estate tax exemption in 2011. While the $1 million lifetime gift tax exemption remains in place through the end of 2010, beginning January 1, 2011 the gift tax exemption for lifetime gifts will increase to $5 million. Thus major gifting possibilities will arise for wealthy families who have previously utilized their gift tax exemption. The legislation sets a $5 million exemption for the generation-skipping transfer tax and a 0% tax rate for 2010. This GST tax exemption would continue for 2011 and 2012, but the GST tax rate will be 35%.
There are several nuances included. First, the new estate tax provisions are effective January 1, 2010, but they are optional. Thus for a person dying in 2010 the estate may elect to be subject to the new law with a step up in the income tax basis for all included assets or the estate may be exempt from the estate tax, but be subject to carryover basis rules with a maximum basis step up of $1.3 million plus, for certain spousal transfers, an additional basis increase of $3 million.
Since the new law sunsets after 2012 without the adoption of another new law in the next two years we will again face the prospects in 2013 of a $1 million exemption and much higher estate tax rates. So true long term planning is still elusive.
The new law adopts "portability" which means that a surviving spouse may utilize the estate tax exemption of their "most recently deceased spouse" upon the surviving spouse's death. Thus a surviving spouse may be able to exempt up to $10 million in assets from the estate tax without the need to create a "bypass trust" upon the death of the first spouse to die. This provision, however, seems fraught with complex problems. If the first spouse creates a bypass trust at death, then appreciation on the assets in the bypass trust during the surviving spouse's lifetime will also be excluded from taxation at the surviving spouse's death. However, the assets in the bypass trust will not receive a step up in basis upon the surviving spouse's death which would occur if those assets were distributed to the surviving spouse and owned at the surviving spouse's subsequent death. In addition, if the surviving spouse remarries and the new spouse dies, then the estate tax exemption for the first spouse is lost. So portability coupled with the sunset possibilities will make this an extremely difficult area of planning. It appears, however, that the $5 million GST tax exemption of a deceased spouse will not be portable so it may not be used by a surviving spouse.
Legislation has circulated for quite some time to eliminate discounts for gifts of certain partnership and other ownership interests in entities among family members. Proposals have also been made to mandate a minimum term of 10 years for grantor retained annuity trusts ("GRATs"). Neither of these proposals has been included in the proposed legislation so planning techniques utilizing these strategies remain viable at least for a while.
Individual Retirement Accounts
The $100,000 tax-free rollover for someone at least age 70 & 1/2 from an IRA to a charity is extended for 2010 and 2011. Plus an IRA/charitable rollover made in January 2011 may be treated as made on December 31, 2010.
Major Income Tax and Employment Tax Provisions
Extension of Current Individual Income Tax Rates. Current individual income tax rates are due to expire on December 31, 2010. Upon expiration, the maximum federal income tax rate applicable to individuals would increase to 39.6%. The 2010 Tax Act postpones the expiration of current tax rates for 2 years until the end of 2012. Hence, the maximum ordinary federal income tax rate applicable to individuals will remain at the current 35% level through 2012.
Extension of Current Rates on Long-Term Capital Gain and Qualified Dividends. Current individual tax rates applicable to long-term capital gains and qualifying dividends are due to expire on December 31, 2010. Upon expiration, the maximum federal income tax rate applicable to individuals on long-term capital gains would increase to 20%, and the rate on dividends would increase to 39.6%. The 2010 Tax Act postpones the expiration of current tax rates for 2 years until the end of 2012. Hence, the maximum federal income tax rate applicable to individuals with respect to long-term capital gains and qualifying dividends will remain at the current 15% level through 2012.
Temporary Social Security Tax Reduction. Under current law, employees pay a 6.2% Social Security tax on wages earned up to the applicable limit (which is currently $106,800), with employers also paying a matching 6.2%, and self-employed individuals paying 12.4% Social Security taxes on all their self-employment income up to the same limit. The 2010 Tax Act provides for a one year, two percentage point reduction of the Social Security tax paid by employees and self employed persons on wages up to the applicable limit. Accordingly, in 2011, employees will pay only 4.2% Social Security tax on wages instead of 6.2% and self-employed individuals will pay 10.4% Social Security tax instead of 12.4%.
Other Individual Tax Relief. The 2010 Tax Relief Act also provides additional tax relief for individual taxpayers including: (1) increase of AMT exemption amounts for 2010 through 2012; (2) preservation of the basic standard deduction for a married couple filing a joint return to twice the basic standard deduction for an unmarried individual filing a single return for 2011; (3) preservation of the current thresholds for phaseout of itemized deductions through 2012; (4) preservation of current thresholds for phaseout of personal exemptions through 2012.
Incentives for Businesses to Invest in Machinery and Equipment. The 2010 Tax Relief Act provides major new incentives for businesses to invest in machinery and equipment, including the following: (1) A 100% writeoff in the placed-in-service year of the cost of property eligible for bonus depreciation applicable to property acquired and placed in service after Sept. 8, 2010, and before Jan. 1, 2012; (2) A 50% bonus first-year depreciation allowance for property placed in service after Dec. 31, 2011, and before Jan. 1, 2013; (3) Extension through Dec. 31, 2012, of the election to accelerate the AMT credit instead of claiming additional first-year depreciation; (4) For tax years beginning after Dec. 31, 2011, setting the maximum expensing amount at $125,000 under Code Section 179 and the investment-based phaseout amount at $500,000 (without these changes, both of these amounts would have been reduced to much lower levels after 2011), and (5) qualification of off-the-shelf computer software for the Code Section 179 expensing election if placed in service in a tax year beginning before 2013.
Other Tax Incentives Retroactively Reinstated and Extended Through 2011. Multiple tax breaks that expired at the end of 2009 will be retroactively reinstated and extended through 2011. These include the research credit; the new markets tax credit; 15-year writeoff for qualifying leasehold improvements, restaurant buildings and improvements, and retail improvements; 7-year write-off for motorsports entertainment facilities; accelerated depreciation for business property on an Indian reservation; expensing of environmental remediation costs; look-thru treatment of payments between related controlled foreign corporations under foreign tax rules; and basis adjustment to stock of S corporations making charitable contributions of property. Moreover, various energy-related provisions will be extended through 2011.
Friday, December 17, 2010
Friday, December 10, 2010
2010 Estate and Tax Planning
I have set out below the techniques for make year end gifts to your children and/or grandchildren without incurring any gift tax consequences. Such techniques are as follows:
Legislative Update. At the time this update is being drafted, there is much continued debate and many proposed changes pending in Congress with respect to the income and estate tax legislation. As of December 9, 2010, Senate leaders indicated that the legislative language to extend existing tax rates for two years is complete and they hope to move forward to a December 11th closure vote on the package. The bill is expected to include an extension of all of the 2001 and 2003 individual income tax rates, regardless of the taxpayer's income. In addition, the bill will put in place a two-year alternative minimum tax “patch,” a two-year extension of popular tax breaks, such as the research and development tax credit, and an extension of several tax credits created to stimulate the economy under the American Recovery and Reinvestment Act.
However, revisions to the estate tax legislation have not fared as well. President Obama previously agreed to a compromise which would increase the estate tax exemption to $5 million and decrease the estate tax rates to 35%. The House Democratic Caucus adopted a resolution on December 9th providing that House Democrats not bring any legislation to the floor of the House that represents the tax cuts framework agreed to by President Obama and congressional Republicans. With this latest round of bickering between Democrats and Republicans, Congress may not be able to reach a compromise regarding any revisions to prevent the sunset of the estate tax legislation.
If Congress does nothing, the federal estate tax is scheduled to come back in 2011. The amount of the federal estate tax exemption, if Congress does nothing, will be $1 million with estate tax rates as high as 55%. It appears that the current legislation is still uncertain and, by the time you receive this update, the current status of the tax legislation will most certainly have changed.
Use of Gift Tax Exemptions to Reduce Estate and Gift Tax. Although the exemption amount and tax rates in future years are uncertain, there is no doubt that the estate tax is returning. Therefore, you should consider making sufficient gifts during your lifetime to reduce a possible estate tax liability.
Any gift-giving programs must take into consideration that your lifetime gifts are subject to a gift tax which is imposed at the same rate as the estate tax. This unified system is intended to eliminate any tax advantage to making gifts. But certain types of lifetime transfers are not subject to gift tax, and the end of the year could be a good time to make these tax-free gifts.
Annual Gift Tax Exclusion. The most commonly-used method for tax-free giving is the annual gift tax exclusion, which allows you to make a gift of up to $13,000 in 2010 to each beneficiary without using your lifetime $1 million gift tax exclusion. There is no limit on the number of beneficiaries to whom you can make such gifts; if you make $13,000 gifts to 10 beneficiaries, you can exclude $130,000 from tax. The exclusion applies to gifts of any type of property, although certain types of property may require an appraisal. Gifts of appreciated property can also result in income tax savings because the recipient will pay the capital gains tax upon any sale. The threat of higher income tax rates in 2011 make this an important consideration.
Your annual gift tax exclusion expires at the end of each year, so the year end is the appropriate time to use it. If you want to make a gift that exceeds the amount of the exclusion, you can effectively double the exclusion by making one gift in December and the second in January. For example, if you are married, you can make a tax-free gift of $52,000 to any individual by making a gift of $26,000 in December 2010 and another $26,000 gift in January 2011. Because the annual exclusion is applied on a per-beneficiary basis, you can leverage the exclusion by making gifts to multiple members of the same family.
Section 529 College Savings Plans. Contributions to a §529 college savings plan do not qualify for the exclusion for tuition payments, but can take advantage of the $13,000 annual gift tax exclusion. Distributions from a 529 plan can be used for a wide range of educational expenses, including tuition, fees, books, supplies, computers, and room and board. An added advantage of a gift to a 529 plan is that the income earned on the plan contributions is tax-free, as long as it is eventually used for educational purposes. Thus, you can reduce your own income taxes by funding a 529 plan with savings that would have been used for college anyway. And, because you can name yourself as the custodian of the account, you ensure that your beneficiary uses the account for educational purposes.
Gifts in Trust. Despite the tax savings, you may be uneasy about making outright gifts to your children or grandchildren due to your loss of control over how they use the gift. This concern can be addressed by making the gifts in trust. This type of gifting will allow you to determine when the beneficiary receives the money and how it is to be used.
There are special requirements for ensuring that a gift in trust qualifies for the $13,000 annual exclusion. Usually, the trust is drafted to provide the beneficiary with temporary withdrawal rights over the gift (usually for 30 days), so that it is considered a present interest rather than one that vests in the future. Although this presents a risk of the beneficiary withdrawing the gift from the trust, the probability of your terminating any further gifts to the trust is usually sufficient to prevent this. If you are interested in making a gift in trust, we will be glad to further explain how this can be done.
Legislative Update. At the time this update is being drafted, there is much continued debate and many proposed changes pending in Congress with respect to the income and estate tax legislation. As of December 9, 2010, Senate leaders indicated that the legislative language to extend existing tax rates for two years is complete and they hope to move forward to a December 11th closure vote on the package. The bill is expected to include an extension of all of the 2001 and 2003 individual income tax rates, regardless of the taxpayer's income. In addition, the bill will put in place a two-year alternative minimum tax “patch,” a two-year extension of popular tax breaks, such as the research and development tax credit, and an extension of several tax credits created to stimulate the economy under the American Recovery and Reinvestment Act.
However, revisions to the estate tax legislation have not fared as well. President Obama previously agreed to a compromise which would increase the estate tax exemption to $5 million and decrease the estate tax rates to 35%. The House Democratic Caucus adopted a resolution on December 9th providing that House Democrats not bring any legislation to the floor of the House that represents the tax cuts framework agreed to by President Obama and congressional Republicans. With this latest round of bickering between Democrats and Republicans, Congress may not be able to reach a compromise regarding any revisions to prevent the sunset of the estate tax legislation.
If Congress does nothing, the federal estate tax is scheduled to come back in 2011. The amount of the federal estate tax exemption, if Congress does nothing, will be $1 million with estate tax rates as high as 55%. It appears that the current legislation is still uncertain and, by the time you receive this update, the current status of the tax legislation will most certainly have changed.
Use of Gift Tax Exemptions to Reduce Estate and Gift Tax. Although the exemption amount and tax rates in future years are uncertain, there is no doubt that the estate tax is returning. Therefore, you should consider making sufficient gifts during your lifetime to reduce a possible estate tax liability.
Any gift-giving programs must take into consideration that your lifetime gifts are subject to a gift tax which is imposed at the same rate as the estate tax. This unified system is intended to eliminate any tax advantage to making gifts. But certain types of lifetime transfers are not subject to gift tax, and the end of the year could be a good time to make these tax-free gifts.
Annual Gift Tax Exclusion. The most commonly-used method for tax-free giving is the annual gift tax exclusion, which allows you to make a gift of up to $13,000 in 2010 to each beneficiary without using your lifetime $1 million gift tax exclusion. There is no limit on the number of beneficiaries to whom you can make such gifts; if you make $13,000 gifts to 10 beneficiaries, you can exclude $130,000 from tax. The exclusion applies to gifts of any type of property, although certain types of property may require an appraisal. Gifts of appreciated property can also result in income tax savings because the recipient will pay the capital gains tax upon any sale. The threat of higher income tax rates in 2011 make this an important consideration.
Your annual gift tax exclusion expires at the end of each year, so the year end is the appropriate time to use it. If you want to make a gift that exceeds the amount of the exclusion, you can effectively double the exclusion by making one gift in December and the second in January. For example, if you are married, you can make a tax-free gift of $52,000 to any individual by making a gift of $26,000 in December 2010 and another $26,000 gift in January 2011. Because the annual exclusion is applied on a per-beneficiary basis, you can leverage the exclusion by making gifts to multiple members of the same family.
Section 529 College Savings Plans. Contributions to a §529 college savings plan do not qualify for the exclusion for tuition payments, but can take advantage of the $13,000 annual gift tax exclusion. Distributions from a 529 plan can be used for a wide range of educational expenses, including tuition, fees, books, supplies, computers, and room and board. An added advantage of a gift to a 529 plan is that the income earned on the plan contributions is tax-free, as long as it is eventually used for educational purposes. Thus, you can reduce your own income taxes by funding a 529 plan with savings that would have been used for college anyway. And, because you can name yourself as the custodian of the account, you ensure that your beneficiary uses the account for educational purposes.
Gifts in Trust. Despite the tax savings, you may be uneasy about making outright gifts to your children or grandchildren due to your loss of control over how they use the gift. This concern can be addressed by making the gifts in trust. This type of gifting will allow you to determine when the beneficiary receives the money and how it is to be used.
There are special requirements for ensuring that a gift in trust qualifies for the $13,000 annual exclusion. Usually, the trust is drafted to provide the beneficiary with temporary withdrawal rights over the gift (usually for 30 days), so that it is considered a present interest rather than one that vests in the future. Although this presents a risk of the beneficiary withdrawing the gift from the trust, the probability of your terminating any further gifts to the trust is usually sufficient to prevent this. If you are interested in making a gift in trust, we will be glad to further explain how this can be done.
Thursday, September 23, 2010
Owners of LLCs Beware: Your Ass(ets) May No Longer be Protected!
By Drew LaGrande & Jeffrey M. Gad
Akerman Senterfitt, Tampa, Florida
Corporate, estate planning, asset protection and bankruptcy attorneys in the Tampa Bay and throughout Florida took notice on June 24, 2010 when the Florida Supreme issued its long awaited decision in Olmstead v. Federal Trade Comm., SC08-1009 (Fla. 6-24-2010). The case examined whether a charging order protection would apply to single-member limited liability company or LLC. The Florida Supreme Court eliminated any doubt on this issue of first impression making it abundantly clear that charging-order protections do NOT apply to single-member LLCs. Consequently, the ruling in this case permits a Court to order a judgment debtor to surrender all rights, title and interest in the debtor’s single member LLC, removing some of the luster and attractiveness of having an LLC.
The case involved a $10 million judgment obtained by the Federal Trade Commission (“FTC”) against Shaun Olmstead individually, together with his corporate entities, for operating a credit card scam. Assets of these debtors were frozen and placed in receivership, including several single-member LLCs owned by Mr. Olmstead. The FTC obtained a judgment for injunctive relief and more than $10 Million in restitution. Mr. Olmstead was ordered to surrender his single-member LLC interests in order to satisfy the restitution judgment.
To better understand this ruling, requires a general understanding of the benefits afforded to owners of partnerships and LLCs in the form of "charging orders." Prior to the Olmstead case, members of LLCs in Florida were generally afforded "charging order" protections - meaning that creditors of an individual member in an LLC were typically limited to a “charging order” against the company's interest of the debtor member. A creditor was not, however, able to reach the assets of the LLC, or to become a member in the LLC in satisfaction of the claims. Therefore, to the extent so charged, a creditor could not take possession of the assets owned by the LLC or become an owner of the units. Instead, the creditor only has rights to collect distributions if any, made by the LLC. A charging order does not, however, require the LLC to actually make any distributions.
In light of these protections, LLCs have become a popular choice of entity when it comes to owning land. Over the past few years, however, there has been some debate as to whether the charging order protection applies to single member LLCs. Historically, the policy behind the charging order was to protect one partner from the actions of the other partners in the partnership. This protection was later extended to LLCs, but LLCs can and often do have only one member, unlike partnerships which must have two or more members. Accordingly, that has opened the door for a creditor, such as the one in Olmstead, to argue there is no policy reason to extend those protections to single member LLCs, since is no need to protect one member from the creditors of the other member.
In reviewing Florida's partnership and LLC statutes, the Court found that unlike partnerships, there is no express provision under Florida's LLC Statutes that allow a charging order to be the sole remedy that can be utilized with respect to a debtor’s membership interest in an LLC. Pursuant to Section 608.433 (4), Florida Statutes, “the Court may charge the membership interest of the member with payment of the unsatisfied amount of the judgment with interest.” Conversely, Chapter 620 of the Florida Uniform Partnership Act was revised to provide the express written language in the statutory provisions, making it clear that charging orders are the sole exclusive remedy for partnerships.
Accordingly, the Supreme Court in Olmstead concluded that the LLC Act did not "support an interpretation which gives a judgment creditor of the sole owner of an LLC less extensive rights than the rights that are freely assignable by the judgment debtor." The Florida Supreme Court therefore distinguished LLCs from partnerships in finding that the charging order provision in the LLC was not the exclusive remedy single member LLCs. Accordingly, it held that a court may order a judgment debtor to surrender all rights, title and interest in the debtor single member LLC to satisfy an outstanding judgment, thus eroding one of the key benefits in owning an LLC from the standpoint of asset protection.
The well publicized dissent offered strong opinions concerning the majority’s decision and questions whether the Court has tried to “right a wrong” in a case which clearly presented bad facts. As a result of the deceptive practices of Mr. Olmstead and some of his entities, restitution was owed in the amount of $10 Million. The Court, recognizing that Mr. Olmstead was deceptive, tried to provide the FTC as much access to obtain control over his assets in order to prevent him from “getting away with deceptive acts and not making restitution to the injured parties.”
Although the holding in Olmstead applied to single member LLCs (i.e. LLCs with only one owner), many Tampa practitioners fear that Florida Supreme Court’s ruling was sufficiently broad whereby it could be read to limit "charging order" protections for multiple member LLCs. It appears there are efforts underway, however, to introduce legislation to the LLC Act which would provide for charging order protections as the exclusive remedy for multiple-member LLCs. Until then, however, these uncertainties will remain and care should be given in preparing operating agreements to protect against a member’s interest from the possibility of being surrendered to a judgment creditor.
At the end of the day, Olmstead makes clear is that no charging order protection will be afforded to single member LLCs and that is never expected to change. To that end, corporate and estate planning attorneys including those in Tampa and St. Petersburg, Florida should notify their clients about the perils of a single member LLC, bearing in mind that a single member LLC is an entity that may provide convenience, but not asset protection. Whether similar limitations will apply to multi-member LLCs remains to be seen!
Akerman Senterfitt, Tampa, Florida
Corporate, estate planning, asset protection and bankruptcy attorneys in the Tampa Bay and throughout Florida took notice on June 24, 2010 when the Florida Supreme issued its long awaited decision in Olmstead v. Federal Trade Comm., SC08-1009 (Fla. 6-24-2010). The case examined whether a charging order protection would apply to single-member limited liability company or LLC. The Florida Supreme Court eliminated any doubt on this issue of first impression making it abundantly clear that charging-order protections do NOT apply to single-member LLCs. Consequently, the ruling in this case permits a Court to order a judgment debtor to surrender all rights, title and interest in the debtor’s single member LLC, removing some of the luster and attractiveness of having an LLC.
The case involved a $10 million judgment obtained by the Federal Trade Commission (“FTC”) against Shaun Olmstead individually, together with his corporate entities, for operating a credit card scam. Assets of these debtors were frozen and placed in receivership, including several single-member LLCs owned by Mr. Olmstead. The FTC obtained a judgment for injunctive relief and more than $10 Million in restitution. Mr. Olmstead was ordered to surrender his single-member LLC interests in order to satisfy the restitution judgment.
To better understand this ruling, requires a general understanding of the benefits afforded to owners of partnerships and LLCs in the form of "charging orders." Prior to the Olmstead case, members of LLCs in Florida were generally afforded "charging order" protections - meaning that creditors of an individual member in an LLC were typically limited to a “charging order” against the company's interest of the debtor member. A creditor was not, however, able to reach the assets of the LLC, or to become a member in the LLC in satisfaction of the claims. Therefore, to the extent so charged, a creditor could not take possession of the assets owned by the LLC or become an owner of the units. Instead, the creditor only has rights to collect distributions if any, made by the LLC. A charging order does not, however, require the LLC to actually make any distributions.
In light of these protections, LLCs have become a popular choice of entity when it comes to owning land. Over the past few years, however, there has been some debate as to whether the charging order protection applies to single member LLCs. Historically, the policy behind the charging order was to protect one partner from the actions of the other partners in the partnership. This protection was later extended to LLCs, but LLCs can and often do have only one member, unlike partnerships which must have two or more members. Accordingly, that has opened the door for a creditor, such as the one in Olmstead, to argue there is no policy reason to extend those protections to single member LLCs, since is no need to protect one member from the creditors of the other member.
In reviewing Florida's partnership and LLC statutes, the Court found that unlike partnerships, there is no express provision under Florida's LLC Statutes that allow a charging order to be the sole remedy that can be utilized with respect to a debtor’s membership interest in an LLC. Pursuant to Section 608.433 (4), Florida Statutes, “the Court may charge the membership interest of the member with payment of the unsatisfied amount of the judgment with interest.” Conversely, Chapter 620 of the Florida Uniform Partnership Act was revised to provide the express written language in the statutory provisions, making it clear that charging orders are the sole exclusive remedy for partnerships.
Accordingly, the Supreme Court in Olmstead concluded that the LLC Act did not "support an interpretation which gives a judgment creditor of the sole owner of an LLC less extensive rights than the rights that are freely assignable by the judgment debtor." The Florida Supreme Court therefore distinguished LLCs from partnerships in finding that the charging order provision in the LLC was not the exclusive remedy single member LLCs. Accordingly, it held that a court may order a judgment debtor to surrender all rights, title and interest in the debtor single member LLC to satisfy an outstanding judgment, thus eroding one of the key benefits in owning an LLC from the standpoint of asset protection.
The well publicized dissent offered strong opinions concerning the majority’s decision and questions whether the Court has tried to “right a wrong” in a case which clearly presented bad facts. As a result of the deceptive practices of Mr. Olmstead and some of his entities, restitution was owed in the amount of $10 Million. The Court, recognizing that Mr. Olmstead was deceptive, tried to provide the FTC as much access to obtain control over his assets in order to prevent him from “getting away with deceptive acts and not making restitution to the injured parties.”
Although the holding in Olmstead applied to single member LLCs (i.e. LLCs with only one owner), many Tampa practitioners fear that Florida Supreme Court’s ruling was sufficiently broad whereby it could be read to limit "charging order" protections for multiple member LLCs. It appears there are efforts underway, however, to introduce legislation to the LLC Act which would provide for charging order protections as the exclusive remedy for multiple-member LLCs. Until then, however, these uncertainties will remain and care should be given in preparing operating agreements to protect against a member’s interest from the possibility of being surrendered to a judgment creditor.
At the end of the day, Olmstead makes clear is that no charging order protection will be afforded to single member LLCs and that is never expected to change. To that end, corporate and estate planning attorneys including those in Tampa and St. Petersburg, Florida should notify their clients about the perils of a single member LLC, bearing in mind that a single member LLC is an entity that may provide convenience, but not asset protection. Whether similar limitations will apply to multi-member LLCs remains to be seen!
Wednesday, May 19, 2010
THE FAMILY GIVETH & THE IRS TAKETH AWAY: HOW RESTRICTIONS AGAINST TRANSFERABILITY IN PARTNERSHIP AGREEMENTS MAY INCREASE YOUR GIFT TAX LIABILITY
By: Drew LaGrande and Jeffrey M. Gad
Akerman Senterfitt
Tampa, Florida
Those of us in the Tampa Bay, Florida area need to be aware of the restrictions against transferability in partnership agreements. In Holman v. Commissioner, the Eighth Circuit recently concluded that the transfer restrictions of a family limited partnership agreement would be disregarded when determining a discounted value of a family limited partnership. Holman also held that gifts of family limited partnership interest made six (6) days after a family limited partnership’s formation would not be viewed as an indirect gift of the underlying property owned by the family limited partnership.
Mr. and Mrs. Holman created an estate plan and implemented the use of a family limited partnership (the “FLP”). They executed their estate planning documents at the same time they signed the FLP documents and the FLP was subsequently funded with a block of Dell stock. The taxpayers argued that the estate and family limited partnership planning was designed to: 1) reduce taxes; 2) transfer wealth to the Holman children; 3) protect the Holman children from themselves by preventing the reduction in wealth from free spending of large sums of money; and 4) teach the Holman children to manage wealth. The FLP, they argued, was not designed to operate or run an independent business, but was simply used as a “family bank” to hold liquid assets.
Mr. and Mrs. Holman gifted limited partnership interest to their children and filed gift tax returns to reflect the gifts. The gifts of FLP interest to the Holman children were made six (6) days after the creation of the FLP. At the time of the gifts to the Holman children, an appraisal of the FLP was completed. The appraisal determined a 49.25% discount on the value of the FLP interest.
The IRS argued that the gifts of FLP limited partnership interest to the Holmans’ children were actually indirect gifts of the Dell stock. The IRS also sought to disregard the transfer restrictions in the FLP Agreement in determining the value for discount purposes of the FLP. Based on the foregoing, the IRS countered that the amount of the overall discount was 28%.
Generally, when a family limited partnership agreement contains a provision which restricts the transfer or sale of an interest in a family limited partnership, the value of the family limited partnership interest is “discounted” for lack of marketability.
Typically, the transfer restrictions will be respected if such restrictions meet a 3-part test, as follows:
1. The restrictions must be “a bona fide business arrangement,”
2. The restrictions must not be “a device to transfer such property to members of the descendant’s family for less than full and adequate consideration,” and
3. The terms of the restrictions must be “comparable to similar arrangements entered into by persons in an arms-length transaction.”
In Holman, the Court ruled that the gifts made six (6) days after the formation of FLP were not considered indirect gifts of the Dell stock owned by the FLP. However, the Tax Court and the Eighth Circuit concurred that the transfer restrictions within the FLP Agreement would be disregarded for valuation purposes since they seemed to fail the “bona fide business arrangement” test. In addition, the Eighth Circuit agreed with the Tax Court that the appropriate discount of the value of the FLP should be an overall 22.4%.
In light of Holman, estate planners and their clients need to reexamine the transfer restrictions in their family limited partnership agreements and consider whether such restrictions meet all three elements as set forth above. One should be wary of not including any transferability restrictions in the partnership agreement. If no transfer restrictions are included in the partnership agreement, then a limited partner may be able to transfer his or her interest to his or her creditors, a divorcing spouse, or an unrelated third party with no oversight from the general partners.
The good news is that Holman seems to reaffirm that gifts made six (6) days after formation of a family limited partnership will not be viewed as indirect gifts of the underlying property transferred to the family limited partnership. In addition, the discounts accepted by the Eighth Circuit (approximately 22%) provide some relief, even though the discounts fall well short of the 49.25% sought by the taxpayers.
Akerman Senterfitt
Tampa, Florida
Those of us in the Tampa Bay, Florida area need to be aware of the restrictions against transferability in partnership agreements. In Holman v. Commissioner, the Eighth Circuit recently concluded that the transfer restrictions of a family limited partnership agreement would be disregarded when determining a discounted value of a family limited partnership. Holman also held that gifts of family limited partnership interest made six (6) days after a family limited partnership’s formation would not be viewed as an indirect gift of the underlying property owned by the family limited partnership.
Mr. and Mrs. Holman created an estate plan and implemented the use of a family limited partnership (the “FLP”). They executed their estate planning documents at the same time they signed the FLP documents and the FLP was subsequently funded with a block of Dell stock. The taxpayers argued that the estate and family limited partnership planning was designed to: 1) reduce taxes; 2) transfer wealth to the Holman children; 3) protect the Holman children from themselves by preventing the reduction in wealth from free spending of large sums of money; and 4) teach the Holman children to manage wealth. The FLP, they argued, was not designed to operate or run an independent business, but was simply used as a “family bank” to hold liquid assets.
Mr. and Mrs. Holman gifted limited partnership interest to their children and filed gift tax returns to reflect the gifts. The gifts of FLP interest to the Holman children were made six (6) days after the creation of the FLP. At the time of the gifts to the Holman children, an appraisal of the FLP was completed. The appraisal determined a 49.25% discount on the value of the FLP interest.
The IRS argued that the gifts of FLP limited partnership interest to the Holmans’ children were actually indirect gifts of the Dell stock. The IRS also sought to disregard the transfer restrictions in the FLP Agreement in determining the value for discount purposes of the FLP. Based on the foregoing, the IRS countered that the amount of the overall discount was 28%.
Generally, when a family limited partnership agreement contains a provision which restricts the transfer or sale of an interest in a family limited partnership, the value of the family limited partnership interest is “discounted” for lack of marketability.
Typically, the transfer restrictions will be respected if such restrictions meet a 3-part test, as follows:
1. The restrictions must be “a bona fide business arrangement,”
2. The restrictions must not be “a device to transfer such property to members of the descendant’s family for less than full and adequate consideration,” and
3. The terms of the restrictions must be “comparable to similar arrangements entered into by persons in an arms-length transaction.”
In Holman, the Court ruled that the gifts made six (6) days after the formation of FLP were not considered indirect gifts of the Dell stock owned by the FLP. However, the Tax Court and the Eighth Circuit concurred that the transfer restrictions within the FLP Agreement would be disregarded for valuation purposes since they seemed to fail the “bona fide business arrangement” test. In addition, the Eighth Circuit agreed with the Tax Court that the appropriate discount of the value of the FLP should be an overall 22.4%.
In light of Holman, estate planners and their clients need to reexamine the transfer restrictions in their family limited partnership agreements and consider whether such restrictions meet all three elements as set forth above. One should be wary of not including any transferability restrictions in the partnership agreement. If no transfer restrictions are included in the partnership agreement, then a limited partner may be able to transfer his or her interest to his or her creditors, a divorcing spouse, or an unrelated third party with no oversight from the general partners.
The good news is that Holman seems to reaffirm that gifts made six (6) days after formation of a family limited partnership will not be viewed as indirect gifts of the underlying property transferred to the family limited partnership. In addition, the discounts accepted by the Eighth Circuit (approximately 22%) provide some relief, even though the discounts fall well short of the 49.25% sought by the taxpayers.
Monday, March 15, 2010
IRS and Civil Tax Penalties Where is the Love?
By Jeffrey M. Gad and Drew LaGrande
Akerman Senterfitt, Tampa
The Federal Government is seemingly caught in the perfect storm. Unemployment is high, tax revenues are low and spending is out of control. You can almost feel the collective angst at the Department of Treasury every time Congress goes on another drunken spending spree leaving someone, someday, to pay the tab. As the Treasury grapples with an escalating deficit and diminishing revenues, growing evidence suggests the Internal Revenue Service may be more aggressive when imposing civil tax penalties and far less willing to work with taxpayers on abatement of such penalties.
National Taxpayer Advocate, Nina Olson, noted during a luncheon in May 2008 before the ABA Section of Taxation that "I think we are back to a time of penalty creep". She added that "we are seeing a penalty enacted for any kind of abuse du jour . . . with overlapping penalties, irrational penalties, penalties that are counterproductive, penalties that are so narrowly designed . . . and you have lost the core structure of what penalties are supposed to do."
In December 2008, the National Taxpayer Advocate published its Annual Report to Congress ("Report"). The Report, which included findings of research conducted on the IRS's penalty structure, addressed many of the concerns raised earlier in the year by Ms. Olson. The Report indicates the number of civil penalties in the Internal Revenue Code has grown from about 14 in 1954 to approximately 130 today and suggests that some penalties are obscure or unduly harsh.
The Report highlighted the challenging array of laws faced by small business taxpayers, in particular, including "a patchwork set of rules" that "can keep businesses and the IRS battling each other for years with no obvious 'correct' answer." By way of example, the data contained in the Report indicates that the number of assessed Trust Fund Recovery Penalties rose from 52,233 cases in 2000 to 179,000 cases in 2006. At the same time, the amount of penalties abated dropped from 41.4% in 2000 to just 24.6% in 2006 (The 2006 figures are subject to change during the period of assessment).
Individual taxpayers are also feeling the pinch. The IRS imposes failure to file penalties on taxpayers when they are unable to pay their liabilities in full by the due date. However, the Report finds that the IRS often miscalculates penalties and interest due to system limitations and human error, inflicting further pain on taxpayers. The study cited in the Report found that miscalculations and errors could potentially effect two million taxpayers, including situations where the penalty systemically charged taxpayers in excess of the 25% rate which is in direct violation of the IRC Section 6651. These miscalculation errors can be further compounded by the restrictiveness of the "reasonable cause" penalty abatement.
As tax dollars continue to dwindle, there is a growing likelihood that taxpayers who are unable to pay their taxes on time and in full will face serious challenges when dealing with the IRS. Higher unemployment rates and a stagnating recession suggests that more taxpayers may find themselves caught up in this escalating perfect storm.
Akerman Senterfitt, Tampa
The Federal Government is seemingly caught in the perfect storm. Unemployment is high, tax revenues are low and spending is out of control. You can almost feel the collective angst at the Department of Treasury every time Congress goes on another drunken spending spree leaving someone, someday, to pay the tab. As the Treasury grapples with an escalating deficit and diminishing revenues, growing evidence suggests the Internal Revenue Service may be more aggressive when imposing civil tax penalties and far less willing to work with taxpayers on abatement of such penalties.
National Taxpayer Advocate, Nina Olson, noted during a luncheon in May 2008 before the ABA Section of Taxation that "I think we are back to a time of penalty creep". She added that "we are seeing a penalty enacted for any kind of abuse du jour . . . with overlapping penalties, irrational penalties, penalties that are counterproductive, penalties that are so narrowly designed . . . and you have lost the core structure of what penalties are supposed to do."
In December 2008, the National Taxpayer Advocate published its Annual Report to Congress ("Report"). The Report, which included findings of research conducted on the IRS's penalty structure, addressed many of the concerns raised earlier in the year by Ms. Olson. The Report indicates the number of civil penalties in the Internal Revenue Code has grown from about 14 in 1954 to approximately 130 today and suggests that some penalties are obscure or unduly harsh.
The Report highlighted the challenging array of laws faced by small business taxpayers, in particular, including "a patchwork set of rules" that "can keep businesses and the IRS battling each other for years with no obvious 'correct' answer." By way of example, the data contained in the Report indicates that the number of assessed Trust Fund Recovery Penalties rose from 52,233 cases in 2000 to 179,000 cases in 2006. At the same time, the amount of penalties abated dropped from 41.4% in 2000 to just 24.6% in 2006 (The 2006 figures are subject to change during the period of assessment).
Individual taxpayers are also feeling the pinch. The IRS imposes failure to file penalties on taxpayers when they are unable to pay their liabilities in full by the due date. However, the Report finds that the IRS often miscalculates penalties and interest due to system limitations and human error, inflicting further pain on taxpayers. The study cited in the Report found that miscalculations and errors could potentially effect two million taxpayers, including situations where the penalty systemically charged taxpayers in excess of the 25% rate which is in direct violation of the IRC Section 6651. These miscalculation errors can be further compounded by the restrictiveness of the "reasonable cause" penalty abatement.
As tax dollars continue to dwindle, there is a growing likelihood that taxpayers who are unable to pay their taxes on time and in full will face serious challenges when dealing with the IRS. Higher unemployment rates and a stagnating recession suggests that more taxpayers may find themselves caught up in this escalating perfect storm.
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