Watch those Family Limited Partnerships! The IRS is Coming!

The IRS is putting extra emphasis on family limited partnerships (FLP), a popular device for controlling gift and estate taxes, to insure that the FLP has more substance than simply a tax avoidance device. A common design for the FLP is for the general partner (usually one or both parents) to manage the partnership with the limited partner (children or other heirs) having rights to receive distributions but few if any other rights. As far as substance, typically general partners will place assets into the trust with the plan to distribute the assets to limited partners at below-market values, citing minority discounts and lack of marketability, two common discounts used by minority shareholders in a corporation. Keys to protecting a FLP include: assuring that a business purpose other than tax avoidance clearly exists, limiting assets in the FLP to business-oriented assets and keeping enough assets outside the FLP for the parents to live on, assuring that general partner income is limited to a reasonable return on assets and establishing the FLP while the parent is in good health.