A Family Limited Partnership (FLP) is a business owned by two or more family members, often used to manage things like a business, real estate, or securities. Think of it as a strategic way to manage your estate and protect your wealth, potentially lowering your tax burden, too.
This article will take a look at what FLPs are all about: how they’re structured, the good and bad sides, and who they might be a good fit for. Because these arrangements can be complex, we’ll also stress the importance of careful planning and professional advice when considering FLPs. You’ll want to maximize any tax benefits while staying fully compliant with the law.
Understanding the Structure of an FLP
An FLP has two kinds of partners: general partners and limited partners. Assets, such as real estate, a business, or securities, are held within the FLP. Here’s how it works:
General Partners (GPs)
General partners are the people who manage the FLP’s assets and operations. They make the decisions about how the FLP runs and they retain control over those assets.
GPs also have liability for the FLP’s debts and obligations. It’s often a good idea to set up a separate limited liability company (LLC) to hold the general partner interests, which can help protect your personal assets.
Limited Partners (LPs)
Limited partners have an economic interest in the FLP, but they have limited control over it. Typically, limited partners are family members who receive ownership interests in the FLP.
Limited partners are shielded from liability beyond the amount of their investment. They also benefit from creditor protection and personal liability shielding.
Assets Held Within the FLP
Common assets held in an FLP are things like real estate, businesses, and securities.
Assets are transferred into the FLP, which allows for a gradual transfer of wealth to future generations while the original owners get to maintain control of those assets.
Benefits of Using FLPs in Estate Planning
Family limited partnerships offer several advantages when it comes to estate planning, including tax benefits, asset protection, and the ability to control how your assets are passed down to future generations.
Tax Advantages
FLPs can significantly reduce estate and gift taxes by allowing you to transfer ownership interests to family members at a discounted rate. By transferring assets into an FLP, you effectively reduce the value of your taxable estate.
These valuation discounts are one of the key tax benefits of FLPs, potentially lowering both gift and estate tax rates. However, it’s crucial to work with an attorney and/or appraiser who specializes in FLP structures to ensure you’re claiming these discounts appropriately and in compliance with tax laws.
It’s also worth noting the lifetime gift tax exclusion, which is currently quite high (over $12 million per individual). But that number is scheduled to decrease after 2025. The annual gift tax exclusion in 2024 is $18,000, increasing to $19,000 in 2025.
Asset Protection
FLPs can provide a layer of asset protection by limiting creditors’ access to the partnership’s assets. As a limited partner, you benefit from creditor protection and a shield against personal liability.
Control and Succession Planning
One of the most appealing aspects of FLPs is that they allow you to maintain control over your assets even as you transfer ownership. As the general partner, you retain decision-making power over the FLP’s operations.
By transferring assets into the FLP, you can gradually transfer wealth to future generations while still maintaining control over how those assets are managed. This allows for a smooth and controlled succession, ensuring your wishes are carried out according to your plan.
Potential Drawbacks and Considerations
While FLPs can be powerful tools for estate planning, they’re not without their downsides. You should carefully weigh the potential benefits against these potential drawbacks before deciding if an FLP is right for you.
Complexity and Costs
Setting up and maintaining an FLP is rarely a DIY project. It’s likely to require the services of attorneys, accountants, and appraisers, which can quickly become expensive. Because the rules surrounding FLPs are complex, professional advice from estate planning experts is an absolute must.
IRS Scrutiny
The IRS keeps a close eye on FLPs, especially when it comes to valuation discounts. To stay on the right side of the IRS, you’ll need to dot every “i” and cross every “t,” holding regular meetings, keeping detailed minutes, and otherwise adhering to all IRS standards.
Potential Liabilities
If the business held within the FLP is poorly managed, the FLP could rack up significant debts and liabilities. Be sure to consider this possibility before transferring assets into an FLP.
Examples and Use Cases
FLPs can be used in a variety of situations where families want to manage assets and potentially reduce estate taxes. For example, parents might put a rental property into an FLP, name an LLC as the general partner, and their children as limited partners. Another example is Bill and Jennifer, who transfer $1 million in real estate to an FLP and receive general and limited partnership interests. This allows them to discount the value of those partnership interests when transferring them to family members.
However, FLPs aren’t for everyone. They’re generally best suited for high-net-worth individuals with substantial assets. If your estate is nearing or exceeding the lifetime exclusion amount, an FLP might be a useful tool to explore for potential estate tax benefits.
Summary
Family limited partnerships (FLPs) can be useful tools for some families. They offer potential tax benefits, protect assets, and allow you to control how your wealth is transferred to future generations. However, they can also be complicated and come with potential downsides.
If you’re considering an FLP, talk with qualified accountants and tax professionals before you move forward. A qualified estate planning advisor can also help you decide if an FLP is the right choice for your specific situation.
Generally, FLPs are best suited for high-net-worth individuals with significant assets who want to minimize estate taxes and protect their wealth for generations to come.