Asset Protection 101

Posts Tagged ‘family limited partnership’

Passive investors of a limited liability company: (LLC)

Passive investors of a limited liability company (LLC) are members who are not managers similar to limited partners of a limited partnership.

Taxation of limited liability company (LLC)

If the limited liability company (LLC) has two or more members, the limited liability company (LLC) is taxed as a partnership. The LLC files a partnership tax return which is the IRS form 1065 and each member of the LLC will receive an IRS form K-1. Members of the limited liability company (LLC) can receive income and tax deductions in proportions that may or may not be equal to their limited liability company (LLC) ownership shares. Therefore, the limited liability company (LLC) is the only business legal entity that offers the flexibility of a partnership with the protection of a corporation. In a way, an LLC is like a marriage between a partnership and a corporation.

One member LLC or single member LLC

An LLC can be formed by one person in most states. An LLC can consist of one member. For a one member LLC or single member LLC, the limited liability company (LLC) is disregarded for federal income tax purposes.

An example of a single member LLC

If a business is run as a sole proprietor and then changed to an LLC, the business owner would have liability protection under state law but would continue to report on IRS tax form schedule C for his or her tax return.

In most states, a member of an LLC ’s interest in an LLC cannot be attached by a creditor. The creditor’s remedy is generally limited to a charging order. This makes an LLC appealing as an asset protection tool but since the LLC as a business entity is now, it has not been heavily tested in court.

Using a Family limited partnership (FLP) and an LLC

If you are using a family limited partnership (FLP) and a limited liability company (LLC) for asset protection and hold your assets, you must have a valid business purpose for the liability protection to be enforceable. That means, a family limited partnership with your personal residence as its sole asset is not a valid business entity unless you pay rent to the family limited partnership.

The Family limited partnership (FLP) is an excellent estate planning strategy and asset protection strategy. The Family limited partnership (FLP) can also help you with income tax deduction.

Reducing estate tax – estate tax planning

To use The Family limited partnership (FLP) as a tax planning and estate planning tool, you can gift small The Family limited partnership (FLP) shares to your children each year so that the size of your taxable estate is smaller when you die. You can max out the gifting limit and no gift tax is due.

Will you lose control of your The Family limited partnership (FLP) if you gift some The Family limited partnership (FLP) shares away?

No. Control of your assets in the Family limited partnership (FLP) is under your general partner. In the above example, the general partner of your The Family limited partnership (FLP) is your spouse.

The value of your remaining interest in your The Family limited partnership (FLP) is further reduced for estate tax purposes because it is not a controlling interest.

Overall the Family limited partnership (FLP), is an excellent asset protection tool of many asset protection strategies that works very well to your advantage. The Family limited partnership (FLP) is also useful for estate planning and tax deduction if used properly.

What happens if you are sued?

Suppose that you are sued and you have a Family Limited Partnership. Your creditor obtains a $50,000 judgement against your name. The creditor can attach your Family Limited Partnership interest but only to the extent of your income as a limited partner called a charging order.

The creditor who attaches a family limited partnership interest cannot participate in the management of the family limited partnership and thus cannot force the general partner (your spouse) to distribute income.

As general partner, you spouse stops paying the Family Limited Partnership’s distributions because in his or her discretion the Family Limited Partnership would be better served to reinvest the capital.

A year later after being sued with Family Limited Partnership in place – send the creditor IRS form for taxes on income they did not receive!

One year later, the creditor still has a $50,000 unsatisfied judgement. The Family Limited Partnership sends the creditor an IRS Form K-1 for the creditor’s share of your ‘phantom’ income. In this Family Limited Partnership example, the Family Limited Partnership asses are worth $300,000. At 10% annual tax return, your share of income would be approximately $30,000 and the creditor would have to pay income taxes in the ballpark of $10,000.

If the creditor does not pay the tax due on your undistributed share of income, the IRS will come after the creditor. You will be in a strong position to force your creditor to settle the claim for a fraction of its value.

What is the general partner of the Family Limited Partnership gets sued?

Suppose a creditor sues your spouse, the general partner of the Family Limited Partnership and tries to attach your spouse’s general partnership interest. The Family Limited Partnership can exercise its power under the Family Limited Partnership agreement to buy out her general partnership interest in the amount of $2,000 or 2%. The Family Limited Partnership then finds a new general partner.

With proper plan, the general partner of the Family Limited Partnership received full compensation for her Family Limited Partnership share. As you can see, the Family Limited Partnership is a special asset protection tool that allows you to take control of your money fully.