Read more about the article How Estate Planning Transfers Business Interest with Limited Liability Companies – Annapolis and Towson Estate Planning
Limited Liability Company on the sticky notes with bokeh background

How Estate Planning Transfers Business Interest with Limited Liability Companies – Annapolis and Towson Estate Planning

Limited liability companies, or LLCs, are used in estate planning to achieve estate tax savings and consolidate asset management, according to a recent article, “Estate Planning With Limited Liability Companies: Transfers of Business Interests as a Planning Opportunity,” from The National Law Review.

In many cases, the LLC is used as a business entity to facilitate gifting or transfers to children, often at discounted values, reducing the value of the donor’s assets, ultimately subject to gift and estate taxation. There are also non-tax benefits, as a properly structured LLC insulates owners from liability and provides an organizational control mechanism.

As a “manager-managed” entity, the management functions and authority over the LLC rests in designated or elected managers, as opposed to owners, also known as “members.” Separating management from ownership transfers some of the asset’s economic benefits, while retaining control over operations. Limiting managerial or voting rights also justifies using valuation discounts for the membership interests who lack control over the company, presenting a tax-planning opportunity.

An LLC offers several benefits:

  • A streamlined method of transferring ownership
  • Creating a structure for centralized management, control, and succession
  • Preserving family ownership through rights of purchase and first refusal
  • Establishing procedures to resolve internal family disputes
  • Gaining protection of LLC assets from claims asserted against owners
  • Gaining protection of owner assets from claims asserted against the LLC

Significant tax savings can be achieved through lifetime gifts of LLC interests because of valuation discounting and removing future appreciation from the donor’s estate. In addition, if transfers are made to trusts for the children, it may be possible to achieve even further benefits, including increased protection against lawsuits, dissolving marriages, and future estate taxes.

These are complex transactions requiring the knowledge of an experienced estate planning attorney and careful vetting by tax advisors. One downside to lifetime gifting: unlike assets passing as part of an estate, gifted assets do not receive a basis adjustment for income tax purposes at the time of the donor’s death. Another downside is that the donor generally cannot benefit economically from the assets after they are transferred. However, if the donor is concerned about divesting themselves of the transferred assets and the income, the transfer could be structured as a sale rather than a gift to provide increased cash flow back to the transferor.

A final note: if the LLC is not operated consistently with the entity’s non-tax business purposes, it may be vulnerable to attack by the IRS or third parties, undermining its benefits for estate tax planning and limited liability protection. The entity must be managed to support its valid business purpose as a legitimate enterprise.

Questions? Contact us to speak to an experienced estate planning attorney.

Reference: The National Law Review (May 19, 2023) “Estate Planning With Limited Liability Companies: Transfers of Business Interests as a Planning Opportunity”

Sims & Campbell, LLC – Annapolis and Towson Estate Planning Attorneys

Read more about the article Protecting Assets with a Trust vs. Limited Liability Company – Annapolis and Towson Estate Planning

Protecting Assets with a Trust vs. Limited Liability Company – Annapolis and Towson Estate Planning

While trusts and Limited Liability Companies (LLCs) are very different legal vehicles, they are both used by business owners to protect assets. Understanding their differences, strengths and weaknesses will help determine which is best for your situation, as explained by the article “Trust Vs. LLC 2023: What Is The Difference?” from Business Report.

A trust is a fiduciary agreement placing assets under the control of a third-party trustee to manage assets, so they may be managed and passed to beneficiaries. Trusts are commonly used when transferring family assets to avoid probate.

A family home could be placed in a trust to avoid estate taxes on the owner’s death, if the goal is to pass the home on to the children. The trustee manages the home as an asset until the transfer takes place.

There are several different types of trusts:

A revocable trust is controlled by the grantor, the person setting up the trust, as long as they are mentally competent. This flexibility allows the grantor to hold ownership interest, including real estate, in a separate vehicle without committing to the trust permanently.

The grantor cannot change an irrevocable trust, nor can the grantor be a trustee. Once the assets are placed in the irrevocable trust, the terms of the trust may not be changed, with extremely limited exceptions.

A testamentary trust is created after probate under the provisions of a last will and testament to protect business assets, rental property and other personal and business assets. Nevertheless, it only becomes active when the trust’s creator dies.

There are several roles in trusts. The grantor or settlor is the person who creates the trust. The trustee is the person who manages the assets in the trust and is in charge of any distribution. A successor trustee is a backup to the original trustee who manages assets, if the original trustee dies or becomes incapacitated. Finally, the beneficiaries are the people who receive assets when the terms of the trust are satisfied.

An LLC is a business entity commonly used for personal asset protection and business purposes. A multi-or single-member LLC could be created to own your home or business, to separate your personal property and business property, reduce potential legal liability and achieve a simplified management structure with liability protection.

The most significant advantage of a trust is avoiding the time-consuming process of probate, so beneficiaries may receive their inheritance faster. Assets in a trust may also prevent or reduce estate taxes. Trusts also keep your assets and filing documents private. Unlike a will, which becomes part of the public record and is available for anyone who asks, trust documents remain private.

LLCs and trusts are created on the state level. While LLCs are business entities designed for actively run businesses, trusts are essentially pass-through entities for inheritances and to pass dividends directly to beneficiaries while retaining control.

Your estate planning attorney will be able to judge whether you need a trust or an LLC. If you own a small business, it may already be an LLC. However, there are likely other asset protection vehicles your estate planning attorney can discuss with you.

Questions? Contact us to schedule a complimentary initial call with one of our experienced estate planning attorneys.

Reference: Business Report (April 14, 2023) “Trust Vs. LLC 2023: What Is The Difference?”

Sims & Campbell, LLC – Annapolis and Towson Estate Planning Attorneys 

What Happens If Couple Divorce and Own Business? – Annapolis and Towson Estate Planning

High-profile cases like the Bezos or the Gates should cause many people to consider how their business and marital assets are tied together. You need to have plans in place from the beginning. No one thinks their partnership will end. However, it’s necessary to have a plan or prenuptial agreement in place, just in case.

The Dallas Business Journal’s recent article entitled “Does your business need a prenup?” explains that there are three typical outcomes when married couples working as business partners decide to end their relationship:

  • One individual buys out the other partner’s shares and continues running the business;
  • The partners sell the business and divide the proceeds; or
  • The couple continues working as partners after the divorce.

Safeguards can be put in place on the first day of the relationship to protect your personal and business assets in the event of a divorce. A way to do this is through a prenuptial agreement, which states what will happen if a split happens. A pre-nup should:

  • Establish the value of the business as of the date of marriage or the date the agreement is signed;
  • Detail a course of action with the appreciation or depreciation of the business from the date of the marriage;
  • Say how business value will be measured; and
  • Specify the allocation of business interests to be awarded to each spouse in the event of a divorce.

In addition to a prenuptial agreement, any privately held company should have a shareholder agreement (or “operating agreement” for non-corporations). The shareholder agreement is one of the most important documents owners of a closely held business will ever sign.

It controls the transfer of ownership when certain events occur, like divorce and states the following:

  • Which party will buy out the other’s shares of the company if a buyout occurs; or
  • If either party has the right to sell, how the ownership interest will be valued and the terms and conditions concerning the acquisition.

Because there are some tax implications involved in a buyout, it’s best to bring in experienced estate planning attorney for this process. In addition, life events like divorce or changes in a business partnership are an appropriate time to update your will, estate plans and any necessary insurance policies.

Please contact our office to schedule a call with one of our attorneys.

Reference: Dallas Business Journal (Aug. 1, 2022) “Does your business need a prenup?”

 

Sims & Campbell, LLC – Annapolis and Towson Estate Planning Attorneys

Addressing Vacation Home in Another State in Estate Planning – Annapolis and Towson Estate Planning

Many families have an out-of-state cabin or vacation home that is passed down by putting the property in a will. While that is an option, this strategy might not make it as easy as you think for your family to inherit this home in the future.

Florida Today’s recent article entitled “Avoiding probate: What is the best option for my out-of-state vacation home?” explains the reason to look into a more comprehensive plan. While you could just leave an out-of-state vacation home in your will, you might consider protecting your loved ones from the often expensive, overwhelming and complicated process of dealing both an in-state probate and an out-of-state probate.

There are options to help avoid probate on an out-of-state vacation home that can save your family headaches in the future. Let’s take a look:

  • Revocable trust: This type of trust can be altered while you are still living, especially as your assets or beneficiaries change. You can place all your assets into this trust, but at the very least, put the vacation home in the trust to avoid the property going through probate. Another benefit of a revocable trust is you could set aside money in the trust specifically for the management and upkeep of the property, and you can leave instructions on how the vacation home should be managed upon your death.
  • Irrevocable trust: similar to the revocable trust, assets can be put into an irrevocable trust, including your vacation home. You can leave instructions and money for the management of the vacation home. However, once an irrevocable trust is established, you cannot amend or terminate it.
  • Limited liability company (LLC): You can also create an LLC and list your home as an asset of the company to eliminate probate and save you or your family from the risk of losing any other assets outside of the vacation home, if sued. You can protect yourself if renting out a vacation home and the renter decides to sue. The most you could then lose is that property, rather than possibly losing any other assets. Having beneficiaries rent the home will help keep out-of-pocket expenses low for future beneficiaries. With the creation of an LLC, you are also able to create a plan to help with the future management of the vacation home.
  • Transfer via a deed: When you have multiple children, issues may arise when making decisions surrounding the home. This is usually because your wishes for the management of the house are not explicitly detailed in writing.
  • Joint ownership: You can hold the title to the property with another that’s given the right of survivorship. However, like with the deed, this can lead to miscommunication as to how the house should be cared for and used.

Plan for the future to help make certain that the property continues to be a place where cherished memories can be made for years to come. Talk to a qualified estate planning attorney for expert legal advice for your specific situation.

Reference: Florida Today (July 2, 2022) “Avoiding probate: What is the best option for my out-of-state vacation home?”

 

Sims & Campbell, LLC – Annapolis and Towson Estate Planning Attorneys

What Happens to Stock Options when Someone Dies? – Annapolis and Towson Estate Planning

Once your business grows, so does the pressure to make good financial decisions in the short and long term. When you think about the future, estate and succession planning emerge as two major concerns. You are not just considering balance sheets, profits and losses, but your family and what will happen to them and your business when you are not around. This thinking leads to what seems like a great idea: transferring stock or LLC membership units to one or more of your adult children.

There are benefits, especially the ability to avoid a 40% estate tax and other benefits. However, there are also lots of ways this can go sideways, fast.

Executing due diligence and creating an exit plan to minimize taxes and successfully transfer the business takes planning and, even harder, removing emotions from the plan to make a good decision.

An outright transfer of stock or ownership units can expose you and your business to risk. Even if your children are Ivy-league MBA grads, with track records of great decision making and caring for you and your spouse, this transaction offers zero protection and all risk for you. What could go wrong?

  • An in-law (one you may not have even met yet) could try to place a claim on the business and move it away from the family.
  • Creditors could seize assets from the children, entirely likely if their future holds legal or financial problems—or if they have such problems now and have not shared them with you.
  • Assets could go into your children’s estates, which reintroduces exposure to estate taxes.

No family is immune from any of these situations, and if you ask your estate planning attorney, you will hear as many horror stories as you can tolerate.

Trusts are a solution. Thoughtfully crafted for your unique situation, a trust can help avoid exposure to some estate and other taxes, allocating effective ownership to your children, in a protected manner. Your ultimate goal: keeping ownership in the family and minimizing tax exposure.

A Beneficiary Defective Inheritance Trust (BDIT) may be appropriate for you. If you have already executed an outright transfer of the stock, it is not too late to fix things. The BDIT is a grantor trust serving to enable protection of stock and eliminate any “residue” in your children’s estates.

If you have not yet transferred stock to children, do not do it. The risk is very high. If you have already completed the transfer, speak with an experienced estate planning attorney about how to reverse the transfer and create a plan to protect the business and your family.

Bottom line: business interests are better protected when they are held not by individuals, but by trusts for the benefit of individuals. Your estate planning attorney can draft trusts to achieve goals, minimize estate taxes and, in some situations, even minimize state income taxes.

Reference: The Street (June 27, 2022) “Should I Transfer Company Stock to My Kids?”

 

Sims & Campbell, LLC – Annapolis and Towson Estate Planning Attorneys

What Is the Best Asset Protection? – Annapolis and Towson Estate Planning

Everyone should have an estate plan incorporating asset protection and tax planning. Most people do not realize they live with a certain level of risk, and it can be addressed in their estate plan, says an article from Forbes titled “You Need An Asset Protection Plan Not Just A Will.”

Being aware of these issues and knowing that they need to be addressed is step one. Here is an illustration: a married couple in their 50s have two teenage children. They are diligent people and made sure to have an estate plan created early in their marriage. It has been updated over the years, adding guardians when their children were born and making changes as needed. They have worked hard and also have been fortunate. They own a vacation home they rent most of the year and a small retail business and both of their teenage children drive cars. They do not see a reason to tie asset protection and risk management into their estate plan. No one they know has ever been sued.

With assets in excess of $4 million and annual income of $350,000, they are a risk target. If one of their children were in an auto accident, they might be liable for any damages, especially if they own the cars the children drive.

The vacation home, if not held in a Limited Liability Company (LLC) or another type of entity, could lead to exposure risks too. If the property is not insured as an income-producing business property and something occurs on the property, the insurance company could easily refuse the claim if the house is insured as a residence.

If their retail business is owned by an LLC or another properly prepared entity, they have personal protection. However, if they have not followed the laws of their state for a business, they might lose the protection of the business structure.

Retirement assets also need to be protected. If they have employees and a retirement plan and are not adhering strictly to all of the requirements, their retirement plan qualification could easily be placed in jeopardy. Their estate planning attorney should be asked to review the pension plan and how it is being administered to ensure that their retirement is not at risk.

There are several reasons why tax oriented trusts would make a lot of sense for this couple. While current gift estate and GST (Generation Skipping Tax) exemptions are historically high right now, they won’t be forever.

This couple would be well-advised to speak with their estate planning attorney about the use of trusts, to serve several distinct functions. Trusts can shelter assets from litigation, decrease or minimize estate taxes when the estate tax changes in 2026 and possibly protect life insurance policies.

Estate planning and risk management are not only for people with mansions and global businesses. Regular people, business owners and wage earners in all tax brackets need an estate plan to address their legacy, protect their assets and defend their estate against risks.

Reference: Forbes (June 7, 2022) “You Need An Asset Protection Plan Not Just A Will”

 

Sims & Campbell, LLC – Annapolis and Towson Estate Planning Attorneys

What Is the Proposed IRS Anti-Clawback Provision? – Annapolis and Towson Estate Planning

The proposed amendment is designed to fix some loopholes in a 2019 regulation passed in response to the 2017 Tax Cuts and Jobs Act. The 2017 law doubled the value of the estate and gift tax exemption until December 31, 2025, when it goes from $12.06 million to $5.49 million. According to this recent article from Financial Advisor titled “Amending The IRS’s Anti-Clawback Provision on Gifting,” the law generated concern among those who wanted to make large gifts to take advantage of the historically high federal estate and gift tax exemption.

The concern was whether the IRS would attempt to clawback the taxes, if the taxpayer died after 2025. This is when the estate tax reverts back to a much lower number. A regulation was issued in 2019 to reassure taxpayers and explain how they could take advantage of the high exemption as long as they made gifts before 2026, regardless of the exemption at the time of their death.

The IRS recognized this as a good step. However, it had a loophole and hence the new proposed amendment. The amendment provides clarity on what constitutes an actual gift. If the donor garners a benefit from the gift or maintains control over the gift, is it really a gift?

Giving the gift of a promissory note worth $12.06 million to lock in the high exemption and leaving it unpaid until death, for instance, is not a gift. The person is not actually giving anything away until after death. Therefore, the note is part of the taxable estate and bound by the estate tax exemption amount in place at the day of death.

The same goes for a person who gives ownership interests in a limited liability company, while continuing to serve as the company’s manager. Taxpayers must be very careful not to mischaracterize their gifts to stay on the right side of this regulation.

Another example: let’s say a person puts a $12 million vacation home into an LLC, with clear directions for home to be kept in the family, and then makes gifts of the LLC ownership interests to the children. If the donor wants those gifts to max out the current $12.06 million exemption, rather than be subject to the lower exemption in place at the date of death, the owner should not be the manager of the LLC. The same goes for the owner living rent-free in any property he’s gifted to anyone, if the wish is to take advantage of the gifting exemption.

In the same way, a mother who places money into a trust fund for a child may not serve as a trustee and control the assets and distributions, if she wishes to take advantage of the tax benefit.

If your estate plan uses grantor annuity trusts (GRATs), Grantor Retained Income Trusts (GRITs) and qualified personal residence trusts (QPRTs), speak with your estate planning attorney. If you die during the annuity period or term of the trust, your estate may lose the benefit of the anti-clawback regulation.

If the amendment is approved, which is expected in late summer, make sure your estate plan follows the new guidelines. If you are truly giving gifts before 2026, you will likely be able to take advantage of this substantial tax benefit and pass more of your estate to your heirs.

Reference: Financial Advisor (May 27, 2022) “Amending The IRS’s Anti-Clawback Provision on Gifting”

 

Sims & Campbell, LLC – Annapolis and Towson Estate Planning Attorneys

Can a Family Limited Liability Company Reduce Estate Taxes? – Annapolis and Towson Estate Planning

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%.

These types of structures are complicated. Therefore, you will need an estate planning attorney with experience in how Family LLCs interact with estate planning. The LLC must be properly structured and have a legitimate business purpose.

It is 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 will 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.

Reference: Financial Advisor (April 4, 2022) “Handling Estates Like An LLC Can Reduce Taxes”

 

Sims & Campbell, LLC – Annapolis and Towson Estate Planning Attorneys