In recent years the Family Limited Partnership (FLP) has grown in popularity as a tax planning technique. While there are various reasons for creating an FLP, a common objective is to enable families to transfer partnership interests to other family members at a limited gift tax cost and without eventual inclusion in the donor's estate for estate tax purposes.

This is accomplished through the formation of an FLP where a family transfers selected assets into a limited partnership in exchange for partnership interests. Since it is more difficult to transfer an interest in a partnership than the underlying asset, the value of the partnership interest is reduced by a marketability discount. Partnership interests may be further reduced by minority discounts where appropriate. Thus, the value of the partnership interests will generally be less than the underlying value of the assets.

Appraisal experts should be hired to attest to the application of discounts reducing the value of the partnership interests. These discounts will vary depending on the characteristics of the underlying assets and the terms and conditions of the partnership agreement. A typical discount may be somewhere around 40% of the underlying asset value. In addition to the estate and gift tax benefits derived from the reduction in the value of the partnership interests, there are other advantages to using this technique.

To qualify as an FLP for tax purposes, the partnership must have some sort of non-tax business purpose or incentive. Qualification requires that the reduction of tax liability must not be the only purpose for forming the partnership. Some general business purposes or non-tax incentives are as follows:

Asset Protection. FLPs use buy-sell provisions to insure that non-family members, unforeseen future creditors, and ex-spouses cannot attain ownership of partnership assets.

Simplified Annual Giving. Many assets which are difficult to transfer or are not readily subject to partition can still be given to descendants through partnership interests.

Prevent Abuse of Wealth. FLPs allow donors to educate younger family members about family wealth without dampening those members' aspirations or work ethic.

Flexibility Over Traditional Trusts. Unlike irrevocable trusts, FLPs can change with the needs and investment philosophies of the family members. Also, partnerships are not hindered by the fiduciary obligations found under trust law.

Litigation Avoided. The FLP agreement can mandate confidential arbitration before an experienced business person which is more desirable than public litigation in the family context. The agreement can also force the loser to pay the costs of the arbitration.

Reduced Taxes, Costs, and Expenses. Partnerships reduce the tiers of taxation from C corporations, eliminate franchise and intangibles taxes in many jurisdictions, reduce operating costs by pooling interests (which increases portfolio diversity), and also reduce probate costs on passive real estate investments such as vacation homes in other states.

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