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Attention family business owners: An important tax rule is about to change

Changes to the tax code are coming. Learn how family businesses handed down through generations are one target

If you own a sizable family business, some big changes are coming to how that business can be passed down from one generation to the next, thanks to the IRS. It’s important to understand what’s changing and why, and how you can be ready when the time comes to help keep that family business alive.

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What’s the current situation?

It’s pretty straightforward and mostly affects wealthier families, or about two out of every 1,000 estates, according to the Center for Budget and Policy Priorities. Under current law, if a family member dies, and their business assets are valued above $5.45 million (or $10.86 million per couple), the federal estate and gift tax rate is a whopping 40 percent (assets below that are free of the federal estate tax). Because of that huge tax burden, families are always looking for ways to reduce the transfer taxes on a business to family members.

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Is this really a big deal?

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Yes, for many reasons. Estate taxes, which are typically due within a year after the date of a death, can be enormous. And if a family isn’t prepared for them, they can paralyze a family business or lead to financial ruin. One commonly cited example came in 1990, when the founder of the Miami Dolphins football team, Joe Robbie, died, and a $47 million estate tax bill forced his family to sell the franchise.

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So how do families actually get around this?

One of the more common legal tricks to lower the transfer taxes is to discount the interest in the business. If the business owner shifts a minority stake in the business to their children, for instance, the law allows the business owner to claim that their children’s stake should be discounted because they lack marketability or they can’t control the operations. That discount can be significant, sometimes as much as 20-40 percent lower than the original rate. It’s real savings.

The IRS allows that?

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The law allows it. The IRS doesn’t like it. Which is why we’re having this discussion.

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Why doesn’t the IRS like it?

Not surprisingly, more people are trying to take advantage of that loophole, in ways that aren’t always kosher. “People have gotten aggressive utilizing these discounts without proper support and perhaps that’s why they are under attack,” says Andrew Bostian, a senior appraiser at BlumShapiro.  “But in most cases, there are supporting empirical studies for the discounts.”

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OK, so explain the changes coming.

The Internal Revenue Service has proposed eliminating valuation discounts for estate planning and family-controlled businesses, based on marketability or lack of control. The regulations would take place sometime after December 1, 2016. If they’re adopted, the new rules would significantly reduce those discounts on transfers of interests in closely-held family business entities, such as limited partnerships, limited liability companies, and corporations. Bostian estimates that if the proposed regulations are adopted as written, they could increase the tax burden on a family business by as much as 50 percent.

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So for any family that might be affected by this change, what should they do?

Good question. In the next 60 days, before the IRS holds hearings on these changes on December 1, here are some key steps to guard against the effects of the changes, based on research and conversations with family planning experts:

  1. Grantor Retained Annuity Trusts (GRATs): Transferring assets into this type of trust could be beneficial because the annuity paid each year will involve little or no estate tax. When combined with current valuation discounts, this strategy could dramatically increase the tax savings.
  1. Intentionally Defective Grantor Trusts (IDGTs): Transferring assets to this will allow the estate to make tax-free gifts to the estate and successfully transfer money for the benefit of their beneficiaries. Another technique, according to Wealthhaven, a Pennsylvania tax planner, may be for clients to now sell interests in family-controlled entities to existing grantor trusts particularly if they are able to sell an asset to the trust at a discount and later “swap” that same asset out for assets of equivalent value. This ultimately achieves the effect of allowing more assets into the trust on a transfer tax free basis.
  1. Fractional Interests: The proposed regulations apply only to interests in family-controlled entities. Discounts for fractional ownership, real or personal, have been recognized in the past and should be allowed. Assuming that fractional interest discounts will not be eliminated, transferring assets of real or tangible personal property may be beneficial because they will allow for the transfer of property with little transfer taxes.
  1. Gifts: Now may be the time to accelerate any gifting you may be considering, particularly if you tailor your estate plans so charitable entities or non-family members will receive gifts.

Is that it?

Not quite. Will the new regulations be retroactive? Will the discounts be eliminated or reduced? There are still some unanswered questions.


For over a century, Rockland Trust has built relationships with business owners to fuel their success and growth. We believe that bond begins with us listening to each of our customers. Together we’ll find the best solutions to help your business’ specific financial objectives.

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This content was produced by Boston Globe Media's BG BrandLab in collaboration with the advertiser. The news and editorial departments of The Boston Globe had no role in its production or display.