Written by Skolnick Law Firm. Posted in Articles


An FLP has two types of partners: general partners and limited partners. The general partners have management control and unlimited liability. The limited partners have no voice in management and are entitled to receive only such distributions as are declared by the general partners.


Limited partners have no personal liability (beyond their capital contributions) with respect to the debts of the FLP. Consequently, limited partners are passive investors, insulated from the actions of the general partners who have a free hand in running the enterprise. The passive investors supply the capital while the success or failure of the venture is in the hands of the general partners.


If parents transfer some or all of their assets to an FLP, they can avoid problems relating to loss of control and fractional ownership. Because the property is owned by the FLP, the parents -- as the general partners of the FLP -- will continue to control the assets. Rather than transferring ownership interests in individual properties to their descendants, the parents may transfer FLP limited partnership interests to children and   grandchildren. The transferees, as limited partners, have no right to participate in the management of the FLP and have no control over the FLP’s assets. The limited partners’ only interest is in the distributions they receive with respect to their limited partnership interests.


Parents may groom a child or children employed in a family business to take over eventual control. When those children are ready, the parents may easily transfer control by transferring or sharing the general partner interest in the FLP. Such transfer of control is simpler to accomplish if the general partner is a corporation.


The general partner decides when and how much will be distributed to the partners. The general partner has considerable flexibility in determining what should be retained in the business and what should be distributed to the partners. As a practical matter, the FLP should probably distribute sufficient funds to pay the income tax liability on the FLP profits passed through to the partners.

An FLP provides more certainty of cash flow. If, for example, children A and B receive interests in property X, and children C and D receive interests in property Y, their incomes are limited to the performance of their respective properties. If one property has no earnings for several years, while the other is profitable, the children will not be benefited equally. This may strain family relationships. If both properties are transferred to an FLP, the children can be given interests in the partnership. The children will then receive distributions based on the performance of the FLP rather than on the performance of each property.


Through ownership of limited partner interests, children who are not employed in the family business may still benefit from distributions on their partnership interests and possibly from redemptions of those interests from time to time, depending on their needs and the FLP’s cash flow.


An FLP introduces simplicity into making transfers. For example, parents may transfer title to real property to the FLP and then give interests in the FLP to their children. If the FLP were not used, a gift of an interest in real estate to the children would require a deed. If the parents wish to make gifts within the gift tax annual exclusion, currently $12,000 for 2007, annual deeds are required. Because deeds must be recorded, the result is numerous deeds of record, and the ownership structure is exposed to the public. The FLP is an umbrella for the family assets transferred to it, and should produce efficiencies in asset administration. When ownership of assets is fractionalized among family members, administration is usually costly and inefficient.


Another advantage of the FLP as an umbrella is efficiency in asset investment management. The FLP will have a greater pool of assets than will each family member. This may provide more leverage in diversifying investments and in retaining investment advisors; the expectation is that greater returns may be achieved.


All the disparate family members have a common interest in the success of the FLP. This may create an atmosphere for enhanced communication among family members.


The FLP is unusual in that its assets are not subject to creditors’ claims against a partner. Section 7.03 of the Texas Revised Limited Partnership Act (TRLPA) limits the remedies of a judgment creditor of a partner-debtor to obtaining a charging order against the FLP interest of the partner. To the extent so charged, the judgment creditor has only the rights of an assignee. An assignee is not a partner and is entitled to receive only distributions to which the assignor was entitled.

Under Rev. Rul. 77-137, a creditor with a charging order is treated as a substituted limited partner for federal income tax purposes. This means that the judgment creditor must report as income the distributive share of all partnership items (i.e., income, gain, loss, deduction) attributable to the charged interest. Because of the tax liability, few creditors apply for charging orders.


At death, ancillary probate proceedings are required in each state where the decedent owns real property. Ancillary proceedings are not required for personal property. Most states treat partnership interests as personal property even though the partnership may own real property. This avoids ancillary probate.


Use of an FLP may provide a greater valuation discount then might otherwise be available if the underlying assets were instead given directly to the recipient. For example, if parents want to transfer $100,000 equally among their four children, the value of the gift is $100,000.

Under Reg. 25.2512-1, the valuation test is the hypothetical “willing buyer-willing seller” test. That is, the value of property “is the price at which such property would change hands between a willing buyer and a willing seller, neither being under any compulsion to buy or sell, and both having reasonable knowledge of relevant facts.”

Rather than transferring $100,000 cash outright to children (as in the above example), the parents may create an FLP to which they transfer $100,000 in exchange for 99 limited partner interests (representing 99% of the FLP equity) and one general partner interest (representing 1% of the FLP equity). The partnership invests the $100,000 in short-term Treasury bills.

Subsequently, the parents transfer the 99 limited partner interests equally among their four children. The issue that arises is the value of the transfers for gift tax purposes. Is the value of each gift $24,750 or some lesser amount? If the value is a lesser amount, what is the justification for the lower valuation?

Under the willing buyer-willing seller test, each gift has a value that may be considerably less than each partnership interest’s pro rata share of the underlying partnership assets. There are three reasons (as follows) why a hypothetical buyer would not purchase the partnership interests based solely on the value of the underlying assets:

  1. Lack of management participation. As a limited partner, the buyer would have no control over the investment of partnership assets. Control lies solely with the general partner.
  2. Marketability discount. There is no market for the limited partner interests. If the buyer needs cash, he would probably not be able to sell such an interest except at a substantial discount.
  3. Minority interest (lack of control). A limited partner interest represents only a minority interest in the partnership even if the partner owns a majority of the limited interests. It may be difficult to find a buyer interested in acquiring a minority interest in an enterprise, especially if he will have to wait 50 years to cash out.

The IRS has traditionally recognized marketability discounts. Rev. Rul. 93-12 recognized minority discounts for gifts of interests in family owned businesses.


Family limited partnerships are structures that may be used to further business and family planning objectives while at the same time providing gift and estate tax benefits through the application of marketability and minority interest discounts. Despite challenges by the Internal Revenue Service, these entities should continue as viable planning vehicles.

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