Avoid State Taxes and Probate

One of the most powerful applications of an LLC is the power it gives you to avoid estate taxes and probate when the founder of the business dies. Yes, an LLC is a business. In fact, it has to have a business purpose or the courts and IRS won’t recognize it. The business purpose can be quite “thin.” For example, managing estate assets has been held to be a business. You need to treat your wealth as a business, and you need to look at your parent’s wealth as a business. The inheritance you get from your parents will most likely be the largest financial transaction you’ll ever handle.

So how does an LLC formation help? There are two aspects to it. First, it can help avoid estate taxes. Second, it can help avoid probate and family fights. Of course, it will substantially help the family control income taxes.

If you’ve been a student of estate planning, you’ll know that a family limited partnership has been the workhorse of estate planning attorneys for decades. Hang with me for a minute and let me explain family limited partnerships for a second, so that you can see why an LLC should be used instead of the family limited partnership. In almost all cases, you should now learn how to form an LLC and use it instead of a family limited partnership.

The family limited partnership has a general partner and limited partners. The general partner controls the family limited partnership. Usually either mom or dad becomes the general partner, and the kids are given limited partnership interests. By law, the limited partners can’t have any management control over the family limited partnership. But, the general partner is personally liable for all of the partnership’s liabilities. To get out of the trap of personal liability, many attorneys use a corporation to be the general partner of the family limited partnership.

As soon as a corporation is used as the general partner, the family limited partnership is subject to all of personal liabilities of the owner(s) of the corporate stock. Assuming dad is the owner of the corporation, if he goes bankrupt or get’s divorced, then the family limited partnership is lost. Effectively, the charging order protection afforded the family limited partnership is lost.

It is sometimes suggested that you form an LLC partnership agreement to be used as the general partner. It is true that using an LLC as the general partner of the family limited partnership would preserve the charging order protection. However, why not use an LLC alone instead of even considering the family limited partnership? The LLC formation has all of the tax advantages of a family limited partnership, and it has better asset protection value, because there isn’t a general partner. In almost all respects, the family limited partnership has got to yield to the advantages of an LLC.

Having decided that the LLC formation is a superior tool to the family limited partnership, what can the LLC do for you to avoid estate taxes and probate?

Estate planning using an LLC is especially valuable for families that have a large piece of property, such as a farm or ranch. It allows the family to keep the piece of property as a single piece of property under the control of the “original owners” and still “divide” the property among the family members.