Tax planning opportunities with BAPTs.

• Author: Horwitz, Stuart M.
• Position: Business asset protection trusts

A new tax planning idea that the authors of this item call a Business Asset Protection Trust (BAPT) creates a variety of income tax planning opportunities touching on international transfer pricing, S corporation trust eligibility rules, Sec. 355 split-offs, and captive insurance companies. It also creates user-friendly internal swaps that do not need to meet the draconian requirements of Sec. 1031. (BAPT is a registered trademark of the Horwitz Group LLC.)

How Does a BAPT Work?

A BAPT is a trust that a company creates in a state that allows for the formation of asset protection trusts. It is set up as a grantor trust with a company and its shareholders (or other persons) as beneficiaries. As an asset protection trust, it allows the company to retain control but shields the assets in the trust from the company's creditors. Under most of these state laws, the company creating the BAPT could be a corporation, limited liability company, limited partnership, general partnership, or sole proprietorship. The ability to create a BAPT has existed for decades; however, the first comprehensive article on this topic was published less than a year ago (see Horwitz and Damicone, "Asset Protection Trusts for Businesses," 152 Trusts & Estates 16 (December 2013)).

The BAPT is a paradox in that its substance comes from its being a tax nullity (a disregarded entity for tax purposes). Rev. Rul. 85-13 and Secs. 671676 of the Code provide that if a trust is treated as a grantor trust, any dealings between the grantor and the trust are treated as a nullity for federal income tax purposes. If the company creates a BAPT that qualifies as a grantor trust, any transactions between the BAPT and the company are ignored. This is where the fun begins. (Note that the IRS has not yet ruled on BAPTs; some possible issues are discussed below.)

Minimizing the Need to Expatriate Funds

Many small to medium-size foreign companies (SMSFCs) expatriate their U.S. funds as quickly as possible overseas. This results in a loss of U.S. tax revenue from a combination of the loss of income-earning assets formerly located in the United States and the loss of income tax from transfer-pricing "games." Unlike Fortune 500 companies whose main motivation for expatriation is generally to reduce or eliminate taxes, SMSFCs are often concerned with losing their profits not to taxes but rather to lawsuits and/or fines for violating myriad governmental regulations. Despite the hyperbole to the...