106-8 Intrafamily and Other Property Transfers: Loans & Sales Flashcards Preview

CFP 6 - Estate Planning > 106-8 Intrafamily and Other Property Transfers: Loans & Sales > Flashcards

Flashcards in 106-8 Intrafamily and Other Property Transfers: Loans & Sales Deck (14)
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Business Succession Planning


The process of planning for the business owner’s eventual sale or transfer of control of the owner’s business


Techniques involving a loan or sale to a family member

  1. Outright sale
  2. Below-market loan
  3. Installment sale
  4. Self-canceling installment note (SCIN)
  5. Private annuity
  6. Sale-leaseback
  7. Bargain sale
  8. Buy-sell agreement (business interest)

Installment sale


For tax purposes, an installment sale (using an installment note) is generally any sale in which the seller receives at least 1 payment after the year of the sale

The estate tax advantage is that the seller may remove an appreciating asset from his gross estate

However, if the seller dies during the installment period, the remaining unpaid principal plus any interest that has accrued from the date of the last payment until the date of the transferor’s death is included in his gross estate


Self-canceling installment note (SCIN)


Used to implement a special type of installment sale that, by its terms, cancels or terminates at the seller’s death

In other words, if the seller dies before all scheduled payments have been made, any unpaid balance that remains due is canceled

The remaining principal and any accrued and unpaid interest from the last payment until the seller-transferor’s death are not included in the seller’s gross estate, avoiding a significant disadvantage with a regular installment sale

SCINs are almost always transactions between family members
The buyer in the transaction must pay a premium (in the form of a higher price or higher interest rate) for the future self-canceling right inherent in the note


Private Annuity


A sale of an asset, usually to a family member, in exchange for an unsecured promise to pay a lifetime annuity to the annuitant-seller
Each annuity payment to the seller will have 3 elements: return on basis, gain on sale, and ordinary income (interest)

For the buyer, the major difference between a SCIN and a private annuity is the tax treatment of the payments

The interest on the SCIN is deductible, but the ordinary income payment on the private annuity is not

Like a SCIN, a private annuity terminates at the annuitant’s death as long as the payment term is only for the life of the annuitant, so nothing is included in the seller’s gross estate




This technique is sometimes used by a senior family member to sell fully depreciated business property to a junior family member and then lease it back

The senior family member has now substituted a lease payments deduction for the previously lost (or used up) depreciation deduction


Bargain Sale


The sale of an asset between family members for less than full consideration
The transfer is partly a sale and partly a gift

The difference between the sale price of the asset and the seller’s basis in the asset will be treated as a taxable gain to the seller of income tax purposes

The difference between the FMV of the asset and the consideration received by the seller is treated as a gift

The property sold will not be included in the seller’s gross estate, but the portion of the property is treated as a taxable gift is added back to the seller’s taxable estate as an adjusted taxable gift (ATG) in arriving at the tentative tax base


Buy-sell agreement


A contract between the owners of a closely held business or between the business and the owners providing for the purchase of the interest of an owner who dies, becomes disabled, or retires
For example, the owners of a business might all agree that if one of them dies, the surviving owners will purchase that owner’s interest in the business

Most buy-sell agreements are separately funded w/ cash value life insurance on the lives of the owners


3 Types of buy-sell agreements

  1. Cross-purchase agreement in which the businessowners agree that if any of them dies, the surviving owners will purchase the decedent’s interest in the business
  2. An entity purchase or entity redemption agreement in which the business entity itself agrees to purchase the interest of an owner who dies
  3. A wait-and-see agreement, which is a hybrid of the first 2 types

Cross-purchase agreement


The respective owners of the business buy life insurance policies on the other owners and use the death proceeds or lifetime csh value to buy out the other owner’s family (or the owner) at the owner’s death, disability, or retirement

1 problem - when the # of partners or shareholders increases, the # of life insurance policies needed to fund the agreement increases geometrically

The formula for determining how many policies will be required is [n × (n - 1)], where n = the number of partners.


Entity purchase agreement


If the business entity is a closely held corporation, this form of agreement is referred to as a stock redemption agreement because the corporation purchases (redeems) the stock of a shareholder who dies
In this form, the business entity itself buys the insurance policies on each partner or shareholder and agrees to buy the interest of an owner who dies, retires, or becomes disabled

An overwhelming advantage of the entity purchase form, when compared to the cross-purchase form, is that the # of insurance policies required to fund the agreement is reduced to 1 partner or shareholder

The most serious problem or disadvantage w/ the entity purchase agreement form occurs if the entity purchaser is a family-owned corporation

In such event, there is a danger that the IRS will treat the redemption price amount (using the family attribution rules) as a dividend to the shareholders


Wait-and-see buy-sell agreement


Hybrid version of the cross-purchase and entity purchase agreement that allows the business owners to wait until an owner dies or retires before deciding whether the surviving owners or the business entity will purchase the deceased or retired owner’s interest in the business

To implement a wait-and-see agreement, each business owner buys and names himself the beneficiary of a life insurance policy on the life of every other owner

A wait-and-see plan typically gives the business entity the right of first refusal to purchase all or part of the interest of an owner who dies

A wait-and-see agreement has some of the same potential disadvantages as a cross-purchase agreement
For example, the # of policies required may become cumbersome if there are numerous owners, and there may be inequities in the premium payments if there are considerable age differences between owners


Buy-sell disability insurance policies


Disability income policies may also be used in buy-sell agreements
In this case, the policy proceeds are used to purchase the business interest of an owner who becomes disabled rather than at an owner’s death

There is no stepped-up basis because the owner has not died, and the capital gain is likely more significant for the disabled owner


Transfer-for-Value Rule and Buy-Sell Agreements


Recall that generally the death proceeds from life insurance are excluded from gross income

If a life insurance policy is transferred for valuable consideration (sold), however, the death proceeds may not be fully excludable from income taxation

This is known as the transfer-for-value rule

Broad exceptions to the transfer-for-value rule that will not result in the loss of the income tax exclusion on the death proceeds
These exceptions include transfers (or sales) of the life insurance policy to:
-the insured
-a partner of the insured
-a partnership in which the insured is a partner
-a corporation in which the insured is an officer or shareholder