In this article, our Iowa business attorneys discuss the benefits of using an LLC in your Iowa estate planning and answer the following questions:
- What is an LLC?
- What are the benefits of using an LLC in estate planning?
- How does a family LLC differ from a regular LLC?
- How does a family LLC work?
- What can I use to fund my LLC?
LLC, or Limited Liability Company, isn’t a term that most people correlate with estate planning. However, for the right estate, an LLC provides specific benefits, including tax breaks when gifting assets to family members, retaining control and management of your assets while allowing beneficiaries to benefit as “shareholders,” and being able to place just about any asset into the LLC.
What Is An LLC?
An LLC is a legal business structure that provides the owners with protection from the company’s liability and debts, as well as a host of other tax and business incentives. It is described as a hybrid model, taking some of the benefits of a corporation, such as reduced liability and tax incentives, and marrying them with the less rigorous structure of a partnership, making it a great option for small businesses. As a partnership, members of the LLC report their profits and losses on their individual tax returns.
What Are The Benefits Of Using An LLC In Estate Planning?
If you’ve amassed a certain amount of wealth that you’d like to distribute to your children and grandchildren, or maybe you’re just looking for a way to soften the potential impact of the estate tax, setting up an LLC can provide solutions, such as:
- Reducing the estate taxes that your children would face from their inheritance;
- Gifting assets to your family during your lifetime, without as much gift tax; and
- Maintaining control over your assets and the way they are distributed.
How Does A Family LLC Differ From A Regular LLC?
The setup of an LLC for a business and an LLC for a family is similar if you think of the parents as the “owners” of the business and the children and grandchildren as “employees with share options.” The parents maintain control and management over the LLC, while the children hold shares, but have no “voting rights” in the way the LLC is handled. Under the LLC the parents can buy, sell, trade, or give out assets, while the members or “employees” are limited in their ability to sell shares, withdraw, or transfer membership.
This setup allows the parents to maintain control over the assets and protect the other members from poor financial decisions made by any of the beneficiaries. Furthermore, when distributing assets to the members (gifting assets), the tax penalty will be significantly less.
How Does The Family LLC Work?
While it may be a little confusing to think of an estate planning and inheritance model like a business entity, looking at the main functions of an LLC for estate planning it’s fairly straightforward. Again, we are assuming that someone setting this up wants the primary benefits of maintaining control over their assets, gaining a tax advantage when gifting assets, and lowering their overall estate tax. After setting up the LLC, you must figure out how to translate the market value of the assets in the LLC into units of value, similar to stocks or shares in a company. At your discretion, these units can then be transferred to your children or grandchildren.
The transfer of units is where the significance of the tax deduction becomes apparent. Managing members (those who started/own the LLC) can “gift” those units to children or grandchildren at a 40% discount. What this means is that the normal federal gift tax threshold of $15,000 can be increased by 40%. You will be able to gift more shares, the value of which is somewhat arbitrary as long as the math works out, before hitting the gift tax threshold for that year. This is all possible because the way LLCs are set up makes management shares inherently more valuable than non-management shares. For more general information on different Iowa Business structures read our article, Recent Changes to Iowa Business Law.
What Can I Use To Fund My LLC?
Nearly any type of assets can be transferred into an LLC: cash from a bank account, car titles, stocks, bonds, art, precious metals, even property. However, when transferring property that is still under a mortgage it’s important to get approval from the mortgage lender first.
While not a common vehicle for estate planning, an LLC can work fantastically for the right family. However, LLCs in and of themselves can be complex, and adding a layer of estate planning on top won’t make things any simpler. We highly suggest speaking with a qualified estate planning attorney and financial advisor. If you have any questions about family LLCs, please give us a call.
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