FOR LIVE PROGRAM ONLY New Section 2704 Regulations and Family Partnerships: Navigating the New Discounting Rules for Family-Controlled Entities TUESDAY, OCTOBER 18, 2016, 1:00-2:50 pm Eastern IMPORTANT INFORMATION FOR THE LIVE PROGRAM This program is approved for 2 CPE credit hours . To earn credit you must: • Participate in the program on your own computer connection (no sharing) – if you need to register additional people, please call customer service at 1-800-926-7926 x10 (or 404-881-1141 x10). Strafford accepts American Express, Visa, MasterCard, Discover . Listen on-line via your computer speakers. • Respond to five prompts during the program plus a single verification code . You will have to write down • only the final verification code on the attestation form, which will be emailed to registered attendees. To earn full credit, you must remain connected for the entire program. • WHO TO CONTACT DURING THE LIVE EVENT For Additional Registrations : -Call Strafford Customer Service 1-800-926-7926 x10 (or 404-881-1141 x10) For Assistance During the Live Program : -On the web, use the chat box at the bottom left of the screen If you get disconnected during the program, you can simply log in using your original instructions and PIN.
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New Section 2704 Regulations and Family Partnerships Oct. 18, 2016 Dave Banerjee Dave Banerjee CPA, Woodland Hills, Calif. dave@davebanerjee.com Kevin Matz, Esq., CPA, LL.M. (Taxation) Kevin Matz & Associates, White Plains, N.Y . kmatz@kmatzlaw.com
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5 New Section 2704 Regulations and Family Partnerships: Navigating the New Discounting Rules for Family-Controlled Entities Strafford Webinar October 18, 2016 Kevin Matz, Esq., CPA, LL.M. (Taxation) KEVIN MATZ & ASSOCIATES PLLC with offices in Midtown Manhattan and White Plains, New York www.kmatzlaw.com (914) 682-6884 kmatz@kmatzlaw.com
Overview of Section 2704 Proposed Regulations 6 On August 2, 2016, the U.S. Department of the Treasury and the Internal Revenue Service issued proposed regulations under Section 2704 of the Internal Revenue Code (the “Proposed Regulations”) that, if enacted in its present form, may very significantly curtail the ability of taxpayers to claim valuation discounts for both lack of control and lack of marketability in family-controlled entities. https://s3.amazonaws.com/public- inspection.federalregister.gov/2016-18370.pdf
Overview of Section 2704 Proposed Regulations 7 Control in this context generally means at least 50% ownership of a corporation, partnership or limited liability company taking into account certain complex family attribution rules. Except in certain limited circumstances, the Proposed Regulations would blur the distinction between (i) active trades or businesses and (ii) entities that are holding companies for passive assets such as publicly-traded securities. In addition, a 3- year “clawback” could apply in certain contexts to valuation discounts attributable to lapsed voting or liquidation rights of a senior family member who dies within three years of making a gift of an interest in a family- controlled entity.
Overview of Section 2704 Proposed Regulations 8 It should be noted that, under the Proposed Regulations, valuation discounts would likely be unimpaired for most tenancy-in-common interests in real property, except perhaps where the tenancy-in-common interest would be regarded as a partnership interest for federal income tax purposes. See Rev. Proc. 2002-22. In addition, in the context of nontaxable estates for estate tax purposes, the Proposed Regulations, if enacted, may have the paradoxical effect of decreasing total taxes as they will often serve to increase basis for income tax purposes, thereby reducing beneficiaries’ income tax liabilities when inherited property is later sold or depreciated from a higher basis peg- point.
Overview of Section 2704 Proposed Regulations 9 Nevertheless, the overall impact of the Proposed Regulations in many client contexts may be very severe. In this regard, there is significant concern that, notwithstanding the presumption of deference that is generally accorded to agency regulations, there has been a vast overreaching of the rulemaking grant that Congress has conferred upon the Department of the Treasury, particularly in the case of active trades or businesses.
Overview of Section 2704 Proposed Regulations 10 More specifically, certain of the Proposed Regulations purport to establish “disregarded restrictions” under the authority of Section 2704(b)(4) of the Internal Revenue Code. That section provides that Treasury may issue regulations regarding certain restrictions only “if such restriction has the effect of reducing the value of the transferred interest for purposes of this subtitle but does not ultimately reduce the value of such interest to the transferee .” It is very hard to imagine that a court would conclude that real-world limitations on the ability to participate in the management of a closely-held entity, or to compel the liquidation of either the entity itself or the transferor’s interest in such entity, will always fail to reduce the value of such interest to the transferee . This is particularly the case where an active trade or business is involved, and depending upon the facts and circumstances may also apply where an active trade or business is not involved (especially if non- family ownership comprises the remaining 50% of the entity’s equity interests).
Overview of Section 2704 Proposed Regulations 11 Accordingly, it is anticipated that a number of professional organizations will submit comment letters that will fiercely attack this conclusive presumption that is contained in the Proposed Regulations as legally invalid for having exceeded permissible rulemaking authority, in addition to having created significant ambiguities warranting further IRS guidance. There are also legislative proposals aimed at overriding the Proposed Regulations.
Overview of Section 2704 Proposed Regulations 12 There is a hearing scheduled on the Proposed Regulations in Washington D.C. on December 1 st . It is conceivable, however, that the Proposed Regulations may be enacted in final form by the early part of 2017, with the IRS then leaving it up to the courts through subsequent litigation to resolve issues of rulemaking validity and ambiguities in construction. In the meantime, there is a window of opportunity for individuals to engage in estate planning involving interests in closely-held entities that may soon effectively be lost come early 2017.
Disregarded Restrictions 13 The cornerstone of the Proposed Regulations is Prop. Reg. § 25.2704-3, which establishes a new category of restrictions known as “disregarded restrictions.” Prop. Reg. § 25.2704- 3(a) provides that “if an interest in a corporation or a partnership (an entity), whether domestic or foreign, is transferred to or for the benefit of a member of the transferor’s family and the transferor and/or members of the transferor’s family control the entity immediately before the transfer, any restriction described in paragraph (b) of this section is disregarded, and the transferred interest is valued as provided in paragraph (f) of this section .” (emphasis added) The Proposed Regulations clarify that these rules apply to limited liability companies, in addition to partnerships and corporations, and that the detailed family attribution rules of Treas. Reg. § 25.2701-6 apply as well.
Disregarded Restrictions 14 What restrictions are described in paragraph (b), and therefore constitute “disregarded restrictions”? Prop. Reg. § 25.2704- 3(b)(1) states that, in general, “[t]he term disregarded restriction means a restriction that is a limitation on the ability to redeem or liquidate an interest in an entity that is described in any more or more of paragraphs (b)(1)(i) through (iv) of this section, if the restriction, in whole or in part, either lapses after the transfer or can be removed by the transferor or any member of the transferor’s family (subject to paragraph (b)(4) of this section), either alone or collectively.” (emphasis in original)
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