Everyone at some point in their lives will need to ask themselves the question, “What will happen to my estate when I pass on?” If your estate exceeds $5.34 million in 2014, the excess could be taxed as high as 40%. In many cases, family limited partnerships are an effective way to reduce the taxability of your estate as well as reducing your current tax liability.
What are Family Limited Partnerships?
A family limited partnership (FLP) is an entity created by the transfer of property from one or more individuals to the entity for the common economic benefit of family members.
What are the advantages of FLPs?
FLPs can preserve and pass on family wealth to members of younger generations. The general partner retains full control of their assets. The parent will transfer ownership interests to the children. Once this is completed, the limited partners cannot make investment, business, and management decisions nor can they individually remove assets from the partnership (via distributions or otherwise) without the general partners’ approval. FLPs can potentially save on income taxes by splitting the income with family members in lower tax brackets. There also may be special valuation discounts available on the transfer of FLP interests, which enables wealth to be passed on to younger generations at a significantly lower tax cost.
How Can a FLP Benefit a Taxpayer That Receives Oil and Gas Payments?
There are numerous advantages to using an FLP to hold the rights under an oil and gas lease. Like a trust, the partnership protects the partnership assets from risks associated with creditors or divorce of family members. A family limited partnership allows control over the assets in the partnership to initially remain with the parents as General Partners, while gradually shifting ownership and eventually control to the children as Limited Partners. In addition, there may be a discount in valuing partnership interests that could be of benefit for those facing federal estate tax.
How Are FLPs Created?
A family limited partnership is a business created by an agreement between an individual and certain members of the individual’s family. It is typically used by an owner of real estate, a business, a farm and for our discussion, oil and gas royalties. Your attorney working with you will prepare the documents required for the formation of the partnership including the transfer of the assets to the partnership. As discussed prior, the advantages of the FLP are to centralize and consolidate management, to reduce estate transfer costs by shifting future increase in value to younger generations and transfer income and cash to other family members. The FLP can be a business and financial planning device that can combine business operational planning, personal tax planning, transfer of family wealth, and business succession planning, all under one flexible arrangement.
Is a FLP Right for My Family Situation?
The foregoing outline gives a broad overview of the structure and advantages of FLPs and their uses for both estate planning and sharing of income. Of course each individual case is different and in some cases a combination of corporations, trusts and FLPs can be appropriate. In proper circumstances, the use of FLPs should be considered for the potential benefits of providing administrative convenience, potential income, estate and gift tax reductions, and creditor deterrence. Be sure to discuss your individual case with your attorney and tax advisor.