Discount partnership arrangements still can be used to reduce transfer taxes.

• Author: Taylor, Rick J.

Although Sec. 2704 was enacted to prevent the use of "discount partnership" arrangements, by carefully structuring the partnership to fall within the limited exceptions to the application of Sec. 2704, it may be possible to preserve the transfer tax benefits of this technique.

What is a discount

partnership arrangement?

A discount partnership is a partnership arrangement involving junior and senior family members. The goal of such an arrangement is to have the property contributed to the partnership by the senior family members valued at a discount in their estates by virtue of its contribution to the partnership. This generally is done by placing restrictions on the partnership's liquidation. The discount arises because the estate cannot readily cause the sale of the assets underlying the partnership interest. As a result, the partnership interest must be valued based on the expected future cash distributions from the partnership, which is usually significantly lower than the value of the underlying assets.

Normally, a discount partnership is formed as a limited partnership with the senior family members and at least one other family member as the general partners. A senior family member generally functions as the managing general partner, which ensures that the senior family members retain control over the partnership's assets without creating a retained interest which would cause inclusion in the transferors'gross estates. The general partners normally have a nominal interest (such as 1%) in the partnership. Substantially all of the partnership's value is vested in the limited partnership interests that are owned primarily by the senior family members. At the time of death, the general partnership interest is purchased from the decedent's estate for its then fair market value (FMV). The limited partnership interest owned by the decedent is not purchased. However, because the partnership cannot be liquidated, the decedent's limited partnership interest is valued based on expected future cash distributions. Generally, the present value of the expected cash distributions is significantly less than the true value of the underlying assets - which results in the "discount."

The discount partnership technique is based on the premise that the executor of the decedent's estate cannot cause the sale of the assets underlying the limited partnership interest. This inability to dispose of the underlying assets is the economic reason for the discount...