If you are one of the millions of people for whom owning a family business is part of the American dream, and you are planning to make that dream a reality, you have a number of difficult decisions ahead of you before your business can officially get off the ground. One of the most important of those decisions is the type 0f legal entity you want for your company. If you are certain you wish to keep the business in the family, a limited family partnership might be right for you. The best way to make your final decisions regarding your business is to consult with an experienced North Dakota or Minnesota business attorney; however, in the meantime you may find it helpful to learn more about the family limited partnership (FLP) option.
Basic Business Entities
Traditionally, a business owner had three basic business entities from which to choose when forming a business – a sole proprietorship, a partnership, or a corporation. A sole proprietorship is the default structure when a single individual is operating a business and has done nothing to form any other type of entity. A partnership exists when two or more people operate a business and share in the profits of that business. You are not required to execute any legal documents to form a partnership; however, many partnerships do operate under a Partnership Agreement. Finally, a corporation requires the owners to file Articles of Incorporation and a number of other legal documents. A corporation is actually run by a Board of Directors and the “owners” are the shareholders. From these basic three structure, a number of sub-categories and hybrids have also evolved, including the family limited partnership.
What Is a Family Limited Partnership? (Also known as a Limited Liability Limited Partnership or LLLP)
A limited partnership is a partnership that has two different types of partners – general partners and limited partners. General partners control all management and investment decisions and bear all of the liability for debts and other liabilities of the partnership. Limited partners cannot participate in the management of the limited partnership and have limited liability. Like all partnerships, the profits and losses of the business are passed through to the partners in proportion to their interest in the business. The partnership itself does not pay taxes. A family limited partnership is simply a limited partnership that is owned by family members. Typically, in an FLP the older members of the family contribute property, cash, or other assets to the business in exchange for a small general partner interest and a large limited partner interest. Over time, they then gift their limited partner interest to the younger members of the family. Eventually, the entire business is passed down to the next generation of partners.
Benefits of a Family Limited Partnership
One of the primary benefits to using a FLP for a family business is that the senior members of the family are able to gradually transfer their ownership of the business to younger members of the family, thereby reducing the value of their taxable estate for the purpose of calculating federal and/or state gift and estate taxes. At the same time, they are able to retain control of the management and day to day operation of the business for as long as they wish to do so.
In addition, because the limited partners cannot control investments or distributions, they may be eligible for valuation discounts at the time of transfer, further benefiting everyone involved. The gifts made by the senior family members will also usually qualify for the annual exclusion. The annual exclusion allows every taxpayer to make gifts valued at up to $14,000 to an unlimited number of beneficiaries each year without incurring federal gift and estate taxes. Moreover, gifts made using the annual exclusion do not count toward a taxpayer’s lifetime exemption limit.
Finally, a FLP helps with asset protection as well. Creditors may not force cash distributions, vote, or own the interest of a limited partner without the consent of the general partners. Moreover, if a divorce occurs within the family, the partnership documents can require a transfer back into the FLP for fair market value if a partner ceases to be part of the family as a result of the divorce.
If you have additional question or concerns regarding a family limited partnership, contact the experienced North Dakota and Minnesota business attorneys at German Law Group by calling 701-738-0060 to schedule an appointment.