The Tax Court has just passed a new technique
that closely-held businesses owners —and wealthy families — can use to pass
assets to heirs with a minimal amount of taxes and complications. The ruling in
the case, Wandry
v. Commissioner,
is stirring up excitement among experts.
Just between us, isn’t it nice
when the IRS loses a case to a taxpayer? For example, the little-guy victory in
the landmark case of Wandry v.
Commissioner affirms and simplifies a very powerful tool for passing on
wealth, especially for the business owner.
While the case and the estate
planning tool in the crosshairs have been the subject of previous articles, The Wall Street Journal provided a new
explanation of the two in an article appropriately titled “Shielding the Family Business.”
The basic plan for wealth
transfer when there is a business involved is to give it in pieces, and that’s
precisely the plan that benefits from Wandry
v. Commissioner. Giving away the entire business outright is a good way to
take a tax hit, since it will invoke a gift tax when you cross certain thresholds
during the year and in your lifetime.
There’s currently a lifetime
exemption of $5.12 million and an annual exclusion of $13,000. Nevertheless,
it’s easy for a business to be worth more than $5.12 M, and using that
exclusion in full will drain what you have available against the estate tax
later at death. However, by their very nature and structure, business interests
are especially amenable to piecemeal ownership transfer. This is because
ownership of the business, and therefore the underlying assets owned by the
business, is an abstraction, and you can simply gift your interests in the
business without a tax hit. For example, you can chip away by giving a usefully
small amount, say, $13,000 per year per individual (or whatever number Congress
and the IRS set for that year), without gift taxes.
Of course, gifting business
ownership is not entirely ideal. Fortunately, that’s what the Wandry v. Commissioner case tries to fix.
Gifting exactly $13,000 is pretty easy by simply writing out the figures and
name on a check. On the other hand, with an abstraction like business ownership,
the gift depends on the value of the business and, more to the point, on the
value that you and the IRS agree or disagree about.
If you give $13,000 of ownership
on the basis of your valuation, but the IRS adds up $15,000 based on its own
valuation, then the IRS might also think you owe a tax (or, alternatively, that
your gift/estate tax exemption should erode by that much). As you might have
guessed, that’s exactly what happened in the Wandry case. Unfortunately
for the IRS, the court held that the Wandrys had clearly intended to give their
annual exemption amount and, if there is a new appraisal and higher valuation
of the gift, then the excess wasn’t intended to be gifted in the first place.
Obviously, there is much more to
this case and more guidance to be gleaned for the business owner. I would
recommend reading the original article if you are or will be transferring
interests in your business. As always, make sure you engage qualified legal
counsel before taking action.
Reference: The Wall Street
Journal (April 30, 2012) “Shielding the Family Business”