Limited Partnerships

Limited Partnerships2018-08-31T14:05:18+00:00


A Limited Partnership is a business entity established under state law. Ownership of the partnership is broken into two classes of partners—general and limited. The distinction between a general partner and a limited partner is important because it determines whether you will have a say in the partnership’s management or whether you receive liability protection from the partnership’s activities. Limited Partnerships are frequently used by family members or business associates to facilitate transfers of assets to others, often at a discounted value that permits significant tax savings.

An important aspect of limited partnerships is that only general partners, not limited partners, have any say in the management of the partnership. This means that the general partners (usually the parents or older generation) entirely control it and are the only ones personally liable for the partnership’s business dealings.

Since the limited partners have no say in the partnership’s control or management, normally they are not personally liable for partnership liabilities except to the extent of their investment in the partnership. A Limited Partnership offers important asset protection planning opportunities for those seeking to protect their personal assets.

A Limited Partnership provides significant opportunities to reduce your estate taxes. In fact, many partnerships are created principally because the partners receive significant accounting discounts in the value of property transferred to the partnership.
The greater the discounted value of the property transferred to the partnership, the lower its taxable value for gift and estate tax purposes.

The ability to discount an asset’s value when transferred to a Limited Partnership is a result of how assets are valued on the free market. The Internal Revenue Service and Tax Courts recognize that the fair market value of an asset over which you possess total control is greater than the fair market value of an asset over which you possess little control. No one would pay the same price for a business controlled by others (even family members), as they would pay for a business they could run as they pleased.

A Limited Partnership may be an attractive estate planning tool because, due to the limited partner’s lack of control over the management of partnership assets, a legitimate discount in the asset’s free market value will be available for their interest in the partnership.

Generally speaking, the less control a limited partner has in the partnership, the greater the valuation discount given. In order to obtain the maximum discount, many partnership agreements intentionally contain many restrictions on the rights of limited partners to be involved in partnership decisions, to withdraw from the partnership, and even on their right to sell their partnership interests. Such partnership restrictions must not be more severe than those permitted by state law or they will be disregarded for the calculation of any discount.

Limited Partnerships can also be coupled with gifting strategies to help you reduce estate taxes. To accomplish this, you would first create a Limited Partnership and transfer assets (such as a family business) to it. Then over a period of years you would slowly transfer partnership interests to your children who are made limited partners. The value of the partnership interests transferred is intentionally kept below the annual gift tax exemption amount to avoid any gift tax liability. When done correctly, this strategy can transfer a significant part of the estate to the children gift and estate tax-free while keeping the parents in total control.

A Limited Partnership can also be used by families to provide income tax savings to family members. Subject to certain restrictions, the members of a Limited Partnership can allocate income and deductions among the general and limited partners in any agreed upon way. This ability to allocate income to individual partners permits a family to distribute partnership income to lower tax bracket members.

Before organizing a Limited Partnership, you should seek the advice of your estate planning attorney concerning a multitude of issues. Those issues include selection of the general partner and deciding who will be responsible for the partnership’s day-to-day management.

Also, since a general partner has unlimited liability for partnership liabilities and losses, the desires of the partners concerning liability for the partnership’s business transactions and their desires regarding the protection of their personal assets from partnership liabilities must be examined. Additionally, the level of trust that the partners have in each other must be considered because the actions of one general partner can legally bind the others.

Taxation of business entity issues must also be examined. Limited partnerships are a flow-through entity. This means that the partnership’s income and deductions are reported on each partner’s individual tax return. The partnership itself pays no federal income tax, a significant benefit over corporations, which normally are taxed at the corporate level.

Other tax ramifications should also be considered. Organizing exclusively as a Limited Partnership may foreclose some tax planning opportunities, particularly in the area of employee benefits. A careful planner will make you aware that a corporation can serve as a general partner.

This option may be appropriate because a corporation can provide employee benefits and other planning opportunities not available to partnerships. If a corporation is chosen to act as the general partner, it is possible to have the corporate general partner elect “S Corporation” tax status. This would also provide an opportunity for flow-through taxation at the individual level.

A Limited Partnership is an excellent tool that empowers you to maintain control over assets while at the same time offering you the flexibility needed to devise and implement a sound estate planning strategy that can deal simultaneously with a multitude of business and family issues. These issues require an analysis of your assets, your business succession desires, how control over the partnership is to be allocated between general and limited partners, the asset protection consequences, and the estate, gift, and income tax ramifications.

Of course, by itself a Limited Partnership is not a complete estate plan. It works best in conjunction with your Revocable Living Trust and other planning documents to make sure that your estate planning desires are completely fulfilled. It is important to discuss these serious issues in depth with your estate planning attorney before deciding whether a Limited Partnership is an appropriate tool in your estate plan. Although we live in a time when many less than scrupulous individuals are trying to sell fill-in-the-blank partnership forms, only a qualified estate planning attorney will be able to help you sort out your options and tailor a plan that will best protect your family.

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