IRS issues Proposed Regulations regarding Valuation Discounts

The IRS has long given the side-eye to certain discounts taken in the transfer of interests in family businesses for estate and gift tax purposes.  Fractional interests of a family-controlled business are often transferred at deep discount because the fair market value standard is applied to the interest being transferred, without consideration of who owns the other interests in the business.

On August 2, 2016, the Treasury Department issued long-awaited proposed regulations under IRC Section 2704 designed to limit the ability of taxpayers to claim valuation discounts for transfer tax purposes.  The proposed regulations are scheduled to become final in early 2017.

REG-163113-02 contains a four-pronged approach to limiting valuation discounts, summarized as follows:

  1. Rules for what constitutes control of an LLC or other entity or arrangement that is not a corporation, partnership, or limited partnership are defined.
  2. So-called “deathbed” transfers are limited, and there is clarification of what occurs if a transfer results in the creation of an assignee interest.
  3. The definition of “applicable restriction” under Reg. Section 25.2704-02 is amended to eliminate the tie-in to local law.
  4. A new section is added to address restrictions on the liquidation of an individual interest in an entity and the effect of insubstantial interests held by persons who are not family members.

The deadline for submission of comments to the IRS is November 2, 2016.

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