FAMILY LIMITED PARTNERSHIPS

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FAMILY LIMITED PARTNERSHIPS

• This material is new in the 9th edition but the
  doctrine has been around for over 20 years.
  Parents place substantial assets into a limited
  partnership or one of the other partnership
  type entities and then gift partnership
  interests to their children.
• This device will work if properly executed, and
  the scheme is designed to play games with
  valuations, especially the minority discount and
  discount for lack of marketability. I will show
  you how to accomplish discounts at the proper
  time in this course. Problems arise when only
  cash and marketable securities are used to fund
  the partnership.

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KING V UNITED STATES

• Valuation of property is always difficult, as we
  shall learn later in the course.
• King sold stock in his family corporation to
  his children for 1.25 a share, but the contract
  for sale provided the price would increase to any
  amount the IRS finally determined was the
  actual fair market value, which was 16 a share.
• The court held that the contingent selling price
  was enforceable and there hence was no gift.

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BUSINESS TRANSACTIONS

• We discussed nstallment sales, parents to
  children, over, say, 10 years. The issue is
  whether there was the parent intended to make a
  gift of each years installment when the sale
  occurs.
• Business gifts, subsidies and the like could be
  gifts, but it is unlikely.
• IRS once ruled that political contributions were
  gifts, but congress knew what to do about that.
  If they are not gifts they must be bribes. The
  congressman would have taxable income if a
  contribution was a bribe. So, Congress exempted
  campaign contributions from the category of
  gifts.
• How to admit a child as a partner in a
  partnership, LLC, LLP, LLLP, PLLP or LP.

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PELZER AND THE ANNUAL EXCLUSION

• Pelzer is a 1941 supreme court decision. The
  gift was in trust to grandchildren, paying the
  income for a period of time and the principal
  was to be distributed 21 years after the death of
  certain grandchildren.
• 2503(b) provides there is no annual exclusion
  (11,000) for a gift of a future interest
  the issue here was whether this gift was such a
  creature.
• Under Alabama law, this was a present interest
  the Court, however, applied a national test to
  define the phrase, future interest.

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PELZER CONTINUED

• Does a gift to a trust, by itself, entitle the
  donor to the annual exclusion? That was an issue
  here. How about a gift to (or from) a
  partnership or a corporation who is the donor
  and donee in each situation?
• Will the gift of a life estate or income for a
  term of years qualify as a present rather than a
  future interest? See p. 145.
• How about non-productive property? Just because
  the property does not currently pay income does
  not necessarily disqualify the exemption, as
  appreciation in value is also a factor.
• Note that the lifetime exemption applicable
  credit is not subject to the future interests
  rule.

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HACKL V COMMISSIONER, 118 T.C. 279 (2002)

• Gifts of financial interests in an LLC were made
  by parents to their children. The LLC had an
  operating agreement that severely limited the
  childrens rights to sell, borrow against or
  otherwise deal with their interests. Such
  restrictions are common in both partnerships and
  corporations. IRS claimed that the restrictions
  created future interests and the tax court
  agreed. The 7th circuit affirmed, 335 F.3d 664
  (C.A. 7th 2003)
• What is the solution? Use a Crummy power along
  with the LLC gifts and the problem is solved.

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GIFTING WITH AN LLC IN NORTH DAKOTA OR MINNESOTA

• Parents build a new warehouse for their business
  that cost 10 million. They place the warehouse
  in an LLC, subject to a 10 million loan.
  Parents take voting interests , but the LLC also
  has issued financial interests sort of like
  preferred stock in a corporation which are
  transferred to the children. The financial
  interests comprise 98 of the value of the LLC
  while the voting interests are worth only 2 of
  the value of the LLC
• In 10 years, when the bank is repaid the 10
  million debt, the children own 98 of the value
  of the LLC, free and clear. Mom and Dad moved
  10 million from their estates.

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FOOTNOTES, PP.149 TO151

• The footnotes deal with gifts to corporations
  which are deemed to be to the shareholders, gifts
  to partnerships, trustees powers, gifts of
  non-productive property, bonds bearing no
  interest, life insurance policies and split
  interest gifts. In certain circumstances all
  these can be gifts of future interests, but, WE
  DONT CARE!
• A simple Crummy power solves every one of these
  booby traps.

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CRISTOFANIS ESTATE

• Mom and dad had two children and 5 grandchildren.
  They made gifts in trust to all seven
  descendents the gifts to the grandchildren were
  contingent on their outliving their parent and
  their parent children outliving the donors.
  There were Crummy powers to withdraw the amount
  of the annual exemption.
• IRS conceded the demand right for the adult kids
  was not a future interest but not for the
  grandchildren as they only had contingent
  interests and may never benefit from the trust.
  The court held the contingencies made no
  difference and allowed the annual exemptions.

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CHRISTOFANI, CONTINUED

• Each years demand was for the amount of the
  exemption, now 12,000 the demand had to be
  made within 15 days from the notice or was
  lost. No demands were ever made, and the court
  recognized that there probably never would be a
  demand.
• What if the child doesnt even know of the
  demand power? Does that matter? Practitioners
  recommend letters to the donees, by certified
  mail, and a 30 day time frame within which to
  demand payment.

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Giants Ridge, Biwabak, MN
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CRUMMY V COMMISSIONER

• This is the first 1966 and the leading case on
  this issue. Mom and Dad had 4 children. They
  gave money, in trust, to be accumulated and then
  pay all the income after age 21 until age 35,
  then pay the income or principal or both if the
  trustee thinks wise. Accordingly, the kids may
  never get the principal. The kids had a yearly
  power to demand any addition to the trust up to
  4000 per year, the then annual exemption
• The withdrawal power was held to be a present
  interest and salvaged the annual exemption which
  was then (1960s) 4000. Henceforth, such
  withdrawal powers are known as Crummy powers.

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HOW BROAD CAN A CRUMMY POWER BE?

• Mom has 200 billion, and is very sick. She has
  one son. Los Angeles has 2 million residents.
  Mom gives her son all her assets, but should he
  fail to live until tomorrow , then then she gives
  11,000 each to the residents of Los Angeles.
  Each resident is given a Crummy demand power, but
  is not told about it. Is Mom entitled to claim 2
  million annual exemptions? Probably a ludicrous
  example but it illustrates the holding in
  Christofani.
• Still, Christofani holds that even a
  contingent remainder qualifies for the annual
  exemption if it is coupled with a demand power.

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AFTERMATH OF CHRISTOFANI

• The IRS has acquiesced (what is an acquiescence)
  in Christofoni, but will challenge any
  transaction where there is a pre-arranged
  understanding that the demand will not be made.
  How are they going to prove that?
• In my opinion, failure to use a Crummy power is
  professional negligence. There is nothing left
  of the future interest rule for the well advised.

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SECTION 2503(C)

• A gift to a minor of a future interest will still
  qualify for the annual exemption if
• The income may be spent for the benefit of the
  minor, and
• The principal will pass to the minor at age 21,
  or to his heirs should he die before then.
• In light of Crummy powers, a gift qualifying
  under 2503(c is seldom used as parents dont
  want property to go to children at age 21. Most
  parents feel that age 25 or 30 is a more
  appropriate age for a child to come into wealth.

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Planning for the small estate
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LEVINES ESTATE V COMMISSIONER

• Funds were given to a trust to benefit the
  donors grandchildren. The trustee was to
  accumulate all income until a beneficiary was 21,
  and then pay out all of the accumulated income,
  and then pay the income yearly. This is, in
  part, a future interest, but the income interest
  to age 21 qualifies under 2503(c. That didnt
  use up the annual exemption, so the taxpayer
  claims that the pre-21 interest added to the post
  21 interest income is equivalent to a life
  estate, which is not a future interest. That
  theory is correct, but the court rejected it.
• Court calls the taxpayers adroit. Were they?
  What effect would a Crummy power have on these
  gifts? These gifts were made in 1968. Crummy was
  decided in 1966. What if the gifts had been
  simple life estates?

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WHAT IS THE FUTURE OF CRUMMY POWERS?

• Crummy powers represent the loophole you can
  drive a truck through. For those aware of the
  rule they totally trump the future interests
  rule. Your author says they are a gimmick, pure
  and simple. p. 159
• But the future interest rule is itself a
  gimmick. If a donee is a beneficiary, what
  difference does it make that he has to wait until
  he is of a certain age to receive the gift? It
  is still a completed gift, and the property will
  never return to the donor.

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UNIFORM GIFTS TO MINORS

• There are three ways to give to minors, other
  than outright gifts. There are advantages for
  each method.. They are guardianships, trusts and
  the Uniform gifts to Minors Acts.
  
  All states have adopted the Uniform Gifts
  to Minors act, in various forms. See Chapter
  47-24, NDCC.
• When do we use the Uniform gifts to Minors Act to
  make a gift rather than a trust or a
  guardianship?
• The act is designed to coordinate with 2503.

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DISCLAIMERS

• What is a disclaimer? How does it differ from a
  renunciation?
• Here are four reasons an heir might want to
  disclaim there are others.
• To increase the marital deduction in an estate
  by causing the renounced property to go to a
  spouse that is what was done in Monroes
  Estate.
• To reduce the amount of property passing to an
  heir. For example, son is rich and sick and will
  die soon if he disclaims a bequest from his
  mother the property will go to his children and
  not be taxed again until they die.
• To increase the charitable deduction for
  example, the residuary under the will goes to UND
  if the disclaimant dies before the testator.
• To otherwise salvage a bad estate plan.

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DISCLAIMERS

• What is the effect of a disclaimer? The
  disclaimant is treated as dying before the
  testator.
• If it qualifies under the federal statute a
  disclaimer is not a gift. Sec. 2518, IRC.
• If it fails to qualify under 2518 it is a
  taxable gift.
• The North Dakota statute, entitled
  Renunciations is found at Sec. 30.1-19-01, NDCC
  and covers both testamentary and
  non-testamentary transfers, such as joint
  tenancy, being a named beneficiary on an
  insurance policy or retirement account, a life
  estate and the like.

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THE REQUIREMENTS FOR A VALID DISCLAIMER

• Must be in writing
• Must be unequivocal
• Must be filed with the court within 9 months from
  the time the interest arises.
• The disclaimant must not have previously
  accepted the benefit of the property.
• 2518c, IRS, permits a disclaimer even if it is
  not authorized under local law.

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MONROES ESTATE

• The wife died and her will gave 29 bequests
  to heirs they disclaimed so that the surviving
  spouse (Husband) got more the residue under the
  will passed to him which reduced the estate tax
  since it increased the marital deduction.
• Husband then made gifts of the same amounts to
  the disclaimants IRS said they got
  consideration for the disclaimers, and hence the
  disclaimers were not unconditional. The lackeys
  in the tax court agreed but the 5th circuit
  reversed holding that even an implied promise to
  pay (by the husband) did not deny the
  disclaimers effectiveness.

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MORE ON MONROE

• Could the disclaimants successfully sue the
  husband in state court if he welched on the
  gifts? Good question.
• Note the key to the decision is the statement
  p. 173 As long as there was no implicit
  agreement that they would receive something from
  Monroe in return for their disclaimers the fact
  that the legatees understood they were giving up
  their rights is sufficient.

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DISCLAIMER TO SOLVE OVER-MARITALIZING

• Husband dies and his will leaves his entire 4
  million estate to his wife, i.e., his
  sweetheart. When he dies, she disclaims one
  half of the property, which then passes to their
  children either as takers in default or by
  intestacy.
• Why did she disclaim? Although there is no tax
  in the husbands estate, there will be when she
  dies. Because of the disclaimer her estate will
  be only 2,000,000 and both estates are tax free.

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OVER-MARITALIZIING AND JOINT TENANCY

• Many couples own much of their property in joint
  tenancy, at least that which is easily
  susceptible of that type of title. Land, farms,
  bank accounts and brokerage accounts are good
  examples of property that often ends up owned in
  joint tenancy.
• If the 4 million of marital property in the
  previous slide is in joint tenancy the
  over-maritalizing problem exists just like the
  case of a sweetheart will.

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JOINT TENANCY DISCLAIMERS

• Jewitt v Cir, 455 U.S. 305, involved a bequest
  by dad to wife for life, remainder to son. Dad
  died in the 1950s, and in the late 1960s the son
  was rich but sick and mom was still alive. Son
  disclaimed the remainder so that the property
  would go to his kids. The court held he
  disclaimed too late, as the 9 months period
  (actually this was before the statutory 9 month
  limit) began to run when dad died. His
  disclaimer was a taxable gift.
• When does the transfer that starts the 9 month
  period occur with joint tenancy property? That
  depends on whether the disclaimer is of the
  original one-half of the property or of the
  survivorship feature.
• Remember each joint tenant owns 1/2 the property
  during their lives and the interest to be
  disclaimed only arises when one joint tenant
  dies.

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JOINT TENANCY DISCLAIMERS 2

• In McDonald IRS claimed that the wife had 9
  months from the time the joint tenancy was
  created (in the 1950s) to disclaim, relying on
  Jewitt. But the surviving joint tenant is
  disclaiming property that only came to her when
  her husband died, just as an heir can only
  disclaim after he becomes an heir. In Jewitt the
  son owned the remainder upon dads death and
  could have disclaimed at anytime.
• Some states do not allow joint tenancy
  disclaimers and they were unavailable in those
  states until the passage of 2503(c)(3), IRC.
  North Dakota does permit them and has for many
  years.

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MCDONALD TAX COURT DECISION

• In the tax court I pointed out to Judge Cohen
  (formerly the Chief Counsel of the IRS) that it
  would be anomalous to require a joint tenant to
  disclaim the survivorship feature of a joint
  tenancy when it may never mature. For example,
  the donee joint tenant might die first, or the
  joint tenancy could be severed. Judge Cohens
  answer, in his opinion, was that a joint tenancy
  is difficult to sever in North Dakota.
• What is required to sever a joint tenancy,
  anywhere, including a North Dakota joint tenancy?
  Two sheets of paper, that is two deeds, is all
  that is needed.
• .

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DISCLAIMERS

• Formula disclaimers are permitted such as I
  disclaim 50 of my interest in Blackacre, or I
  disclaim an amount that will cause the tax in my
  deceased husbands estate to be zero
• One can disclaim other non- probate property,
  like remainders, or life estates, reversions, or
  life insurance proceeds, or pension benefits,
  under North Dakota law.

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PROBLEMS WITH DISCLAIMERS

• Since the disclaimant is treated as dying
  before the testator, the property will go to an
  alternative beneficiary. That may well be a
  minor child of the disclaimant which can be a
  problem.
• The minor child could disclaim as well, but his
  guardian has to decide if that action would be in
  the best interests of the child.
• Disclaimers are not a substitute for a estate
  plan they serve best to salvage a bad estate
  plan.

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