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Depressed Commercial Real Estate Values Combined With $5.25 Million Gift Tax Exemption Create Valuable Opportunities for Family Wealth Transfers
Maurice Kassimir & Associates, P.C.
Depressed Commercial Real Estate Values Combined With $5.25 Million Gift Tax Exemption Create Valuable Opportunities for Family Wealth Transfers
Although we may be emerging from the recession, appraised values on commercial real estate are still well off their highs. These low valuations combined with (1) a still very low-interest rate environment, (2) valuation discounts to reflect minority interests and (3) a now permanent $5,250,000 gift tax exemption ($10,500,000 for a husband and wife), have created valuable opportunities for passing wealth to your children and grandchildren. When you take valuation discounts into account to reflect lack of marketability and minority interest, a possible valuation can be as low as 6-7 times cash flow (although there are many methodologies appraisers use to determine value). These reduced values create tremendous opportunities to advance your estate planning. As President Obama has proposed eliminating valuation discounts on intra-family transfers, anyone interested in this type of estate planning should act immediately.

Real estate is typically owned in a Limited Liability Company (LLC) or Limited Partnership (LP). To move your interest in the LLC or LP out of your estate, we usually recommend first having the membership or partnership interests appraised on a discounted basis to reflect discounts for lack of marketability and minority interest. The service of a reputable appraiser is necessary. Simultaneously, you will create an irrevocable grantor trust (sometimes referred to as a "defective grantor trust") for the benefit of the family. The grantor trust is funded with seed capital (usually through $14,000 annual exclusion gifts or gifting a portion or all of the current $5,250,000 lifetime gift tax exemption). The goal is to seed the trust with some capital and then sell assets to the trust at discounted values. The seed capital must equal at least 10% of the sale price.

Any value in excess of the gifted or seeded amount can be sold to the grantor trust in exchange for a promissory note. Using the combined $10,500,000 of available gift tax exemption for a husband and wife as the seed capital can allow for the additional tax-free movement of real estate interests of up to $100,000,000 via gift and sale. When discounts are also factored in, the undiscounted value of the properties transferred may be as high as $150,000,000! The transaction can be structured where you always retain control over the property.

As stated, the LLC or LP interest is sold to the grantor trust in exchange for a promissory note. If the note is less than 9 years, the IRS stated Applicable Federal Rate for July 2013 is only 1.22%. The cash flow going into the trust (now as the owner of the LLC or LP interest) will be used to pay down the interest and principal on the note. Once it is paid off, future cash flow can remain in the trust and grow outside of your estate (instead of accumulating in your estate and eventually being subject to estate tax). With only a 1.22% interest rate, paying off the note will occur very rapidly.

A tremendous benefit of a grantor trust is that transactions between you and your grantor trust are not taxable. Thus, the sale of an LLC or LP interest to your grantor trust is not a taxable event. However, if an interest representing 50% or more of the underlying property is sold within a 3 year period, there can be NYS/NYC real property transfer taxes of about 3%. This tax can be avoided by selling less than a 50% interest in the underlying property. In some circumstances, however, it may make sense to pay the 3% real property transfer tax in order to avoid the estate tax after your death. It is important to note that the basis in the hands of the trust is a carryover basis (i.e. the trustís basis is your basis). Because the sale is to a grantor trust, there is no increase in basis. This may result in capital gain taxes later if the property is ever sold. Therefore, if you consider doing a sale, you must weigh potential capital taxes against the estate tax savings. Special attention must be given to investments with a negative basis.

Having assets owned by trusts can substantially enhance tax planning benefits. An added benefit to using a trust is that your descendants will be provided with significant asset protection in the event of a divorce or lawsuit as long as the investment remains in trust. Furthermore, you, as the grantor of the trust can continue to pay the income tax on any trust income, further reducing your estate. The income tax that you pay under current law for the trust is a tax free gift! The grantor trust can also be used as a FAMILY BANK to make tax free gifts to your children if they need to buy a home or make a business investment.

We strongly encourage you to consider this opportunity in light of the current economic environment and take advantage of it and the $5.25 million gift tax exemption for estate planning purposes. Interest rates have been historically low, but it appears they are slowly beginning to rise. Inflation will also increase valuations of your real estate investments.

If you have a commercial real estate investment, you should seriously consider implementing an estate plan to move these assets out of your estate now.
Maurice R. Kassimir, Esq.
Maurice Kassimir & Associates, P.C.
(212) 790-5719
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If you have any questions regarding this matter or any other estate planning techniques, please contact a Maurice Kassimir & Associates, P.C. Trusts & Estates attorney or e-mail us: mkassimir@mkpclaw.com.

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