A valuation discount win for estate planners.

• Author: Klahsen, Rick

The increased use of limited liability companies (LLCs) has brought many questions to the gift and estate planning forefront, especially those dealing with the single-member LLC (SMLLC). For federal tax purposes, an SMLLC can be disregarded as an entity separate from its owner. Accordingly, does the owner, specifically for transfer tax purposes, have an interest in an LLC or the underlying assets of the LLC?

The answer could make a difference in the valuation of the transfer because of the effect of discounts. Obviously there is no lack of control with an SMLLC. However, as with other privately held companies, there are marketability issues that may warrant discounts. If a member transfers an interest in an LLC, discounts are acceptable. If the LLC is disregarded and the gift is treated as an interest in the underlying assets of the LLC, no discounts are allowed on the transfer. If SMLLCs are not allowed valuation discounts, that will decrease their appeal and usefulness.

There has been relatively little guidance on how LLCs should be treated for transfer tax purposes. However, in 2009 a case was brought to the Tax Court to determine if the transfer of an SMLLC was a transfer of an interest in the LLC or an interest in the underlying assets of the entity (Pierre, 133 T.C. No. 2 (2009)). The Tax Court ruled in favor of the taxpayer (although there was a 10-6 split in the judges' opinions) that a transfer of an interest in an SMLLC should be valued as a transfer of an interest in the entity. The opinion did not decide whether the step-transaction doctrine would apply to collapse the separate transfers to the trust or what valuation discount percentage would be allowed; the Tax Court stated that another opinion would be issued to address these questions.

The Facts

Suzanne Pierre received a gift of $10 million in 2000. In July 2000, she created a valid LLC under New York State law. She transferred cash and marketable securities of approximately $4.25 million to the LLC, known as Pierre Family, LLC, and retained 100% of the interest in it. She did not elect association status, so the LLC was deemed a disregarded entity. She also created two trusts--one for her son and one for her granddaughter. In September 2000, Suzanne gave a 9.5% interest in Pierre Family, LLC, to each trust. A few days later, she sold a 40.5% interest in the LLC to the trusts for promissory notes worth $1,092,133 each.

When valuing the transfers for gift tax purposes, the...