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Proposed IRS Regulations Would Limit Valuation Discounts for Family Controlled Entities


In August, the Internal Revenue Service (IRS) proposed regulations under IRC § 2704 that would limit valuation discounts for family controlled entities such as corporations, partnerships and limited liability companies among others. If implemented, the regulations would work to prevent individuals from utilizing common tax planning techniques that can affect the valuation of estate and gift taxes on transferred assets.

These proposed regulations would overturn existing rules established under IRC § 2704, which deal with lapses of voting and liquidation rights in family controlled entities, and restrictions that prevent liquidation of family controlled entities. Until now, these rights and restrictions were primary considerations in determining the magnitude of discounts when valuing interests in family controlled entities, and if made effective, the changes would prompt significant need for consideration of altering estate planning strategies for such entities.

Specifically, prominent changes to existing §2704 rules, as provided by the August 2016 proposal, mandate that:

  • Lapse in voting or liquidation right due to transfer of interest within three years of a transferor’s death may be treated as a lapse at the date of death, and as such will be eligible for inclusion in the decedent’s gross estate.
  • Existing and proposed §2704 rules apply to all entities that are considered to be business entities for tax purposes, regardless of the entity’s classification for federal tax purposes.
  • The extent of “applicable restrictions” to be disregarded for purposes of gift, estate, and generation-skipping transfer tax expands to provide that restrictions are disregarded unless it is mandated by law or is levied by unrelated parties who provide capital to the entity in the form of debt or equity.
  • “Disregarded Restrictions” shall be ignored when valuing interest in a family controlled entities. Such restrictions serve to limit the time and manner of dispersal of liquidation proceeds. These include restrictions which limit the ability of the interest holder to liquidate an interest; limit the liquidation earnings to an amount that equals less than an established minimum value; defer payment of liquidation earnings for a period greater than 6 months; or defer payment of liquidation proceeds in a manner other than cash or property.

Comments regarding the proposed changes will be reviewed at a hearing scheduled for December 1, 2016. Should the regulations be approved, the rule changes would likely become effective in 2017, and would severely impact the estate planning strategies for interest holders in family controlled-entities moving forward.

In light of the above, if you or your clients were considering this type of wealth transfer anyway, it makes sense to initiate a transfer prior to year-end.  As always, consult with your estate attorney and tax advisors prior to finalizing your plans.

For additional information regarding the effects and reach of the proposed IRS regulations, or to discuss how these changes may affect your individual estate plan, please contact Patrick Lowry at or 410-418-9290.

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