Postmortem Estate Planning for Small Business Owners
The rights decisions can preserve family wealth and save estate taxes. With federal estate tax rates reaching as high as 55%, a small business owner's death and the resulting estate tax liability can create additional problems for the business, ranging from negative cash flow to insolvency. Although business owners should complete effective estate planning before their deaths, certain postmortem measures are available to reduce or eliminate federal estate taxes, even for a client who did no estate planning during his or her life or one whose planning was inadequate or in error. This article reviews the primary postmortem strategies available to a small business owner's family and executor. With a working knowledge of these planning opportunities, CPAs can work with the family to help protect a client's cash, facilitate business continuity and preserve family wealth by saving estate taxes. ALTERNATE VALUATION If asset values are declining, determining a gross estate's fair market value on an alternate valuation date rather than on the date of death may save taxes. Typically, the alternate valuation date is six months after death under IRC section 2032. Property the estate or the heirs dispose of within six months after death is valued on the date of distribution, sale, exchange or other disposition. An executor may elect the alternate valuation date if * Using that date decreases the gross estate, estate taxes and any generation-skipping transfer tax. * The estate files Form 706, U.S. Estate Tax Return, within one year of its due date, including extensions. Thus, alternate valuation is not available to estates that increase in value after death or to estates so small they don't require filing form 706. Also, if other strategies eliminate estate taxes, alternate valuation serves only to reduce beneficiaries' asset bases since they use form 706 values for this purpose. Alternate valuation is irrevocable and applies to each of the estate's assets, whether its value has increased or decreased. The date an executor selects for alternate valuation of property generally should depend on the plans for that property. An asset marked for sale should be sold (and valued) as soon as possible after death if it is declining in value. Any decline after six months would not reduce estate taxes but would lower the total estate available to beneficiaries. Property marked for funding trusts or for outright distribution to beneficiaries generally should be kept in the estate for at least six months after death if its value is falling. This permits the full decline in value to be reflected in the estate tax bill. THE SPECIAL-USE VALUATION Section 2032A permits U.S. real estate that a deceased U.S. citizen or resident used in a trade or business, including farming or ranching, to be valued at a discount. The property's value is based on its use in the activity in which it is employed rather than on its so-called highest and best use, with a maximum discount of $750,000 (adjusted for inflation after 1998). A decedent or a member of the decedent's family must have owned and used the property in the trade or business for at least five of the eight years before death. The decedent or family member must have materially participated in the business. The property must pass to the decedent's spouse or certain relatives, and each person who has an interest in it must agree in writing to continue using the property in that activity for 10 years and to sell to no one except another family member. Cessation of use or disposition triggers tax for which family members are responsible. In addition, the property must meet two percentage tests: 1. Equity in qualifying real estate must be at least 25% of the decedent's gross estate after subtracting debts. 2. Equity in real estate and personal property used in the business at the time of death must be at least 50% of the gross estate net of liabilities. …