The Family Limited Partnership (FLP) has been a valuable estate planning tool for sometime now. It allows families to pass on wealth by tax-efficient means while at the same time keeping management of the contributed assets within the family. However, past IRS court victories brings home the fact that properly operating a family limited partnership is essential to its effectiveness.

Last year, the Court of Appeals for the Third Circuit made a ruling that the IRS may subject family limited partnerships to increased scrutiny in regards to their business purpose and operations. What this entails is that families having such partnerships have to be careful to treat them as true entities by respecting the form of the partnership. For example, in a family limited partnership a family member cannot use the partnership as a personal bank account. Similarly, terms of the partnership agreement must be complied with, especially regarding the distributions. Those who manage the family limited partnership should meet regularly and carefully document their decisions. While it isn’t essential that the partnership own or operate an ongoing business, a family limited partnership which primarily holds assets for investment should actively manage such assets and document any decisions made in respect to them. In short, the court’s decision stressed the need to treat family limited partnerships as separate and distinct entities.

Although family limited partnerships are still an effective means of estate planning, this case emphasized the point that if family limited partnerships are not managed in a business-like manner by the family, then the IRS will not be required to respect them for transfer tax purposes, thereby negating any benefit they hold.

If you would like more information regarding asset protection, trusts, family limited partnerships or the subject of this article please call or email our office.