Proposed Treasury Regulations Seek to Limit Valuation Discounts


After years of speculation, the Treasury Department has issued proposed regulations aimed at restricting valuation discounts commonly used in estate and family business planning.

Under current law, when making gifts of partial ownership interests in a closely held business, the transferor of such an interest might discount the fair market value of the interest transferred for “lack of control” and “lack of marketability”. This often results in discounts of 15% to 45% for gift tax purposes. The underlying rationale is that a partial interest in a closely held company has certain inherent limitations, including but not limited to: the recipient of such a gift has no individual control over the company, and is restricted in his or her ability to sell or transfer the interest. Therefore, it is assumed that an outside party would not be willing to pay full price for the interest, and the gift tax value is discounted accordingly.

By applying these discounts to gifts from parents to children, families owning closely held business interests can leverage their estate and gift tax exemptions and substantially reduce the estate and gift tax paid when transferring a family business between generations.

The changes proposed by the regulations are subtle, but the impact could be quite severe. The proposed regulations would disregard certain discounting restrictions for family owned businesses, and would provide that if a lapse of voting rights or liquidation rights (such as by dispersing such rights among family members) occurs within three years prior to the transferor’s death, then that lapse would be treated as an additional transfer. The net effect of these changes could be to eliminate discounting in many situations.

The regulations are not yet final, and comments are currently being solicited from the industry and public. The earliest the regulations could become effective is December 31, 2016. Timoney Knox will continue to monitor this important issue and keep you updated. (Kevin Birkhead, Esq., October, 2016)