Tax Secrets: Transferring The Family Business To Your Kids

Or how to beat the IRS at their own game when it comes to valuation of businesses for calculation of tax payable when transferring shares to a family member.

Irv Blackman of the Naples News takes a look at minority discounts – the discount you can apply to a valuation to compensate for the “impediment” of the shareholding being a minority shareholding and therefore one with restricted rights. Any discount to the valuation is obviously beneficial when transfering shares to a family member, and reduces the tax payable. However, this is a contentious area and the IRS has often been at odds with business owners about the value of their business.

This is the current IRS position: “A minority discount will not be disallowed solely because a transferred interest, when aggregated with interests held by family members, would be part of a controlling interest.” (Revenue Ruling 93-12)

There’s also a tip about “intentionally defective trusts”

Let’s translate the example into dollar bills for your business. Suppose Success Co. is your business and is valued at $5 million. Everyone agrees with the valuation. Even the IRS. In our office we would typically take a discount for “general lack of marketability” (usually in the 35 percent range) and an additional discount for minority interest that would bring the total discounts to 45 percent or $2,250,000 ($5,000,000 X 45 percent). This means that the value of Success Co. for tax purposes is only $2,750,000 ($5,000,000 minus $2,250,000).

The IRS has accepted the 35 percent marketability discount theory for years. Adding the minority discount theory to the IRS’ acceptance list puts us (the business valuation appraisers and you – the business owners) in the driver’s seat. Now, the IRS can only argue the amount of the discount, and as long as your discounts are reasonable (like the percentages used above), you are on solid ground. Tax Secrets: Transferring the family business to your kids