A common way in which family limited partnerships are structured are as follows. A parent contributes assets he or she owns to the Family limited partnership and receives both general and limited partnership interests. The great majority of the capital contribution of the parent is assigned to the limited partnership interests the parent receives. Commonly, 1% of the capital contribution is assigned to the general partnership interest and 99% to the limited partnership interests. As soon as the interests go through a valuation, the parent then gifts, at a discount, his or her limited partnership interests to the children. The parent retains the general partnership interest and the control and management of the Family limited partnership.
The gifts to the children are discounted for their lack of marketability and on the basis that they are minority interests. These discounts allow a donor to reduce his or her gross estate. The donor can also leverage his or her unified credit, gift tax exclusion and generation-skipping tax exemption. Discounts of limited partnership interests in non-business property may, however, be scrutinized if not challenged by the IRS.
The limited partners will be entitled to income distributed by the family limited partnership, based upon the proportionate share they own of the partnership, which interest they will also take upon the partnership's termination. Until then, they have no right to control or manage the assets of the Family limited partnership.
A Certificate of limited partnership must be filed with the Secretary of State. If the partnership owns real property, a certified copy of the Certificate of Limited Partnership needs to be recorded in every county in which the partnership owns real property.
If the Family Limited Partnership has been set up in another state such as Wyoming or Nevada but will be doing business for instance in California, the partnership will need to file a form and pay a fee to be qualified to do business in the State of California. Many states have similar requirements.
A fictitious business name statement must also be filed with the county clerk in each county in which the partnership does business.
Any transfers of assets or property to the partnership must be in writing. Many such assets must then be either re-registered or amended into the partnership name, such as the John Smith Family Limited Partnership. Leases and other assets may require the authorization of the property landlord or other business entities with whom the business has dealings with to be amended in the name of the partnership.
Bank account(s) must now be opened in the name of the partnership. The partnership will also be responsible for paying taxes, thus tax returns must be filed. Accounting records must be kept in detail. One of the most important things to ensure is that there is no commingling of partnership funds with the personal funds of any of the general or limited partners. Any transactions that are for the partnership, should thus be in the name of the partnership, not in the name of one or more of the partners.
Real property is usually transferred to a family limited partnership either by a Warranty Deed or by a Grant Deed, as opposed to a Grant Deed, but depending on the state. Personal residences should not be placed into a family limited partnership, if for no other reason that it may well cause the loss of a homestead exemption and the loss of a capital gains exclusion.
Everything the family limited partnership should be documented. The family limited partnership should purchase insurance in it's name on partnership assets. Equipment should be leased by the Family limited partnership so the equipment is not lost if the business of the Family limited partnership is found liable in litigation.
Upon the death or withdrawl of a partner, or the assignment of their interest, the Certificate of Limited Partnership must be amended and filed with the Secretary of State, as well as in each county in which there is real property owned by the limited partnership.
When the partnership has ceased to do business, a Certificate of Dissolution must be filed with the Secretary of State and final tax returns filed. However, to avoid allowing a creditor or trustee in bankruptcy from being able to dissolve the family limited partnership, the partnership agreement should not allow a partner to dissolve or demand that the partnership be dissolved, to the extent permitted by law.
An individual, a corporation, an LLC, a trust, and even another partnership may be a partner of a family limited partnership. A family limited partnership can also be the major or sole member of an LLC that is formed to own a risky asset.
Family limited partnerships should restrict partners from withdrawing partnership capital. Earnings should be provided to be distributed annually, except for funds which the general partners reserve for the conduct of the business. An assignee should not be allowed to become a substituted additional limited partner without the unanimous consent of all the partners. In the event another person does become an assignee, the partnership should provide for the right to buy out that person's interest on the terms provided in the partnership agreement, such as in 360 monthly installments.
The general partner of a family limited partnership may also be employed and thus an employment agreement is useful, especially in the event the individual is ever removed or does not receive income distributions. In the event the general partner has a risk of bankruptcy or divorce, efforts should be made to portray that general partner's interests as separate property. Also, any limited partners should have no recourse against any of the general partners for financial returns, but should only be able to look to the partnership assets.
To protect the family limited partnership against creditors, the partnership agreement should provide that a creditor of a partner does not have the right to seize assets of the family limited partnership, compel dissolution, liquidation or distributions, to become a partner in place of the debtor-partner, or to exercise any management power or participate in the conduct of the partnership.
In compliance with IRS requirements, we must advise you that any U.S. federal tax advice or family limited partnership advice contained in this informational article is not intended to be used nor is it published in order for it to be used and you may not use it for the purpose of avoiding penalties or fines under the Internal Revenue Code. It is not intended to be used nor is it being published in order to promote, market or recommend any specific transaction, tax-related matter or estate planning tax scheme to any party.