Tax Update: New proposed regulations for Internal Revenue Code Section 2704

By Rick Cooley, CPA

On August 2, 2016, the IRS issued proposed regulations under Internal Revenue Code Section 2704 that could eliminate or significantly reduce the allowable discounts when valuing interests in family-owned entities for gift, estate and generation-skipping transfer tax purposes.

Background

Historically, taxpayers could reduce the value of their taxable estates or the value of taxable gifts by placing assets in family-owned partnerships, LLCs or closely held corporations and claiming lack of marketability and/or lack of control discounts. The combined discounts typically reduced the value of the ownership interests by 25% to 45%.

For example, under current tax law, by placing $10 million worth of assets inside a closely held entity, a taxpayer might reduce the value of his/her estate by $2.5 million to $4.5 million. Given the current 40% estate tax rate, they could achieve a reduction in the estate tax payable by $1 million to $1.8 million.

What Could Change

Under the new proposed regulations, such large valuation discounts for interests in family-owned entities would no longer be recognized for gift or estate tax purposes when transfers are made between family members via sale, gift or at death except in very limited circumstances. If the estate tax rate increases pursuant to proposals from various politicians become law, then this change will be even more impactful.

Next Steps

Fortunately, we have a short window of opportunity to take action before the Section 2704 regulations go into effect.  The Treasury Department, for procedural reasons, cannot finalize the regulations until December 2016 at the earliest.  In the interim, you may make gifts or sales to your family and have full advantage of the current law, including the threatened valuation discounts.

If you are considering transferring interests in family-owned entities in the near future, please contact Rick Cooley to schedule a time to determine the impact of the 2704 regulations and to chart a course forward.

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