Family Limited Partnerships: A Roadmap to Family Wealth and Investment Success
A family limited partnership (FLP) is an arrangement in which family members pool money to run a business project. Each family member buys units or shares of the business and profits in proportion to the number of shares they own as outlined in the partnership operating agreement.
What is a Family Limited Partnership (FLP)?
A family limited partnership (FLP) is a business or holding company owned by two or more family members. These partnerships offer opportunities for wealth preservation, tax savings, and business investment among families.
Key Characteristics of an FLP
- Ownership by Two or More Family Members: An FLP is typically formed and run by family members as both general and limited partners.
- Investment Units or Shares: Family members buy into the business by purchasing units or shares, ceding managerial control or staying purely as investors.
- Management by General Partners: General partners manage day-to-day operations and usually own a larger share.
- Profit Sharing: Partners are entitled to dividends proportionate to their shares.
- Wealth Preservation: FLPs commonly aim to preserve a family’s generational wealth, allowing for tax-free transfers of assets and investments.
Real Life Example Explained
Imagine a person wants to start a luxury apartment venture, forecasting expenses at $1 million (including working capital) and revenue at $200,000 annually before costs. They need a $500,000 down payment. By establishing an FLP and selling 5,000 limited partnership shares at $100 each, the total matches the down payment requirement. The original investor becomes the general partner, purchasing 500 shares, and the family buys the remaining 4,500 shares. This $500,000 equity can secure a loan for the total $1 million project cost.
As the apartments are leased and generate income, profits are used to pay off the mortgage, and stakeholders receive dividends, gradually accruing wealth among all partners.
Advantages of Family Limited Partnerships
Estate and Gift Tax Benefits
A family limited partnership offers significant estate and gift tax advantages.
- Members can transfer family wealth gift-tax-free via FLP interests up to the annual gift tax exclusion.
Example: A couple with $5 million in savings distributes it through their FLP to their 12 children and grandchildren. Using the annual gift exclusion of $34,000 per recipient (2023 limit for couples), they transfer $408,000 annually without triggering gift tax. Further, any gains from the FLP interest stay outside the estate, reducing eventual estate taxes.
- Elevated Control and Wealth Management
- General partners maintain control and can set rules that prevent the mismanagement or premature disposal of gifted shares.
Disadvantages of Family Limited Partnerships
Complexity and Costs
An FLP can be expensive and exists amid complex regulatory frameworks. Registration, management, and professional advisement (legal, tax experts) contribute to costs. It’s crucial to maintain the viability and day-to-day operations of the business for tax purposes, and mishandling could lead to unexpected liabilities.
Special Considerations
General partners can establish stipulations shielding the partnership’s expansive wealth from misuse or quick sales. Assets gifted are managed to benefit future generations. If younger beneficiaries exist, shares can route through a Uniform Transfers to Minors Act (UTMA) account till they attain legal managing age.
Other Frequently Asked Questions?
What Are Family Limited Partnerships?
They are arrangements facilitating collective family investment in businesses, typically grounded in structured agreements elaborating each member’s role and return.
Is It Expensive to Run a Family Limited Partnership?
Yes, setting up and managing FLP is costly and demands ongoing legal, estate, and tax specialist engagements.
How Many People Do You Need to Set Up a Family Limited Partnership?
An FLP requires a minimum of two family members: without fulfilling the family nature, it doesn’t fit its classification.
Related Terms: General partnerships, Limited partnerships, Estate tax, Gift tax, Tax exclusion, Inheritance planning.
References
- Justia. “Family Limited Partnerships”.
- Internal Revenue Service. “IRS Provides Tax Inflation Adjustments for Tax Year 2023”.
