Does Your Partnership Entity Pass the Validity Test for Estate Tax Purposes?

By: Robert J. Strachota

Selecting an ownership structure that fits your business needs and goals requires thoughtful consideration and professional know-how. There are advantages and disadvantages to each type of entity, and one size does not fit all. Before you settle on a partnership structure, discuss the estate tax ramifications with your planner. Keep in mind that the key to maximizing the benefits from these asset protection devices is to follow the rules. Relying on cookie-cutter do it yourself models to save money at the front end may result in unexpected tax consequences down the road. Does your business partnership entity meet the most basic validity test requirements? To see if you are on the right track, answer the following questions. Next, consult with your estate planner to verify that your current ownership structure is the most appropriate one for your business.

Is it a Qualified Entity for Tax Planning Purposes?

Formation Questions:

  1. What are the non-tax reasons for forming the entity?
  2. Did other partners make real contributions of property or services to the entity?
  3. Does the client setting up the entity have sufficient assets outside the partnership on which to live and pay non-partnership estate tax liabilities?
  4. Were personal assets placed in the entity?
  5. Are financial obligations properly followed?
  6. Is each partner given the opportunity to participate in drafting the terms of the agreement?
  7. Is each partner given the opportunity to determine which assets are contributed to the entity?
  8. What is the discretion regarding distributions to the general partner?
  9. Is time period between the date of funding and the date of transfer adequate? Was the time period sufficiently documented?

Operation Questions:

  1. Are the non-tax reasons for creating the entity consistent with how it is operated?
  2. Are the partnership assets in any way co-mingled with the general partner’s personal assets?
  3. Are distributions made in accordance with the terms outlined in the agreement?
  4. Is the entity treated and respected as a separate entity?
  5. Are personal expenses paid from the partnership?
  6. Are taxes paid directly from the partnership?