George Robertson, CFP, CRPS, AIF

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Building Financial Security with an FLP

Asset protection. Tax savings. Estate planning. High net worth individuals and business owners need to plan for all three, and a family limited partnership (FLPs) may help. Given today's litigious society and your potential tax liabilities, it is important to develop strategies to protect your hard-earned asets and save money where you can. Let's take a look at the ways an FLP can help you minimize your liability, maximize your tax savings, and plan your estate.

Limiting Liability, Protecting Assets

As you know, a partnership is created when two or more people join together to carry on a trade, business, or profession, sharing in the profits and losses. In a general partnership, every partner is presumed to be the authorized agent of the partnership and of all other partners for all purposes within the scope and objectives of the business. As a result, all partners have unlimited liability.

A limited partnership consists of two or more persons with one or more general partners and one or more limited partners. A limited partner has no right to participate in the management and operation of the partnership business or to interfere in any manner with its conduct or control. There is no liability for the limited partner in regard to the business beyond his or her capital allocation.

A family limited partnership is an entity formed as a statutory limited liability partnership under state law in which the only partners are family members. It is important to note that FLPs must have business. Individuals establishing FLPs can act as general partners, hold many of the limited partner interests, and maintain 100% control of assets. In addition, because only family members will own all FLP interests, the entity can be dissolved relatively easily. For tax purposes, an FLP is considered a "pass through" entity and, therefore, is nontaxable as a separate entity; the income passes to the owner and will be taxed accordingly as ordinary income, capital gains, etc.

In the event of a lawsuit, FLPs provide a measure of protection because the complaining party cannot lay claim to assets owned by an FLP or pursue a partnership interest. Furthermore, an FLP can generally protect partnership interests from creditors, even if they obtain a "charging order."

Wealth Preservation

In addition to offering asset and creditor protection, the FLP is also a valuable wealth preservation tool. Income tax savings result when FLP income is shifted to children in lower income tax brackets. The "kiddie tax" makes this a less effective strategy for younger children. While children will be taxed on their share of the FLP's income, this income does not have to be distributed to them.

For estate planning purposes, an FLP can be a valuable tool because it allows you to give limited partnership interest to your children but still retain control over the entity. Children, as limited partners, cannot transfer their partnership interest without your consent (as the general partner), and they will have no personal liability for partnership debt or obligations.

Gifts of limited partnership interests to your children can generate substantial discounts and can be made tax free if under the annual exclusion amount ($13,000 for single filers and $26,000 for joint filers in 2010). Furthermore, you may give away up to $1,000,000 during your lifetime tax free, but doing so will reduce the amount you are able to transfer tax free at death. Gifts that qualify for the annual exclusion will not reduce this amount. These gifted interests are excluded from your estate.

As you can see, FLPs are complex, and proper planning is essential. While there are many benefits, there are also disadvantages: There will be expenses for establishing and maintaining an FLP, retained partnership interests appreciate in your estate until transferred, and gifts do not receive a step-up in basis. For specific guidance, consult your tax and legal professionals.

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