Dallas Estate taxes are often referred to as the death tax. Few Americans are subject to estate taxes due to the exclusion on the first $2,000,000 of an estate (2006,2007, and 2008). Taxpayers with estates substantially in excess of this amount should consider planning to minimize estate taxes. For family businesses it is important to ensure adequate liquidity is available to pay estate taxes (so the business does not have to be sold to pay the taxes).

Estate Tax Reduction

Estate taxes can be sharply reduced or eliminated through advance planning. Options to reduce estate taxes include trusts, family limited partnership, gifts prior to death, gifts at death and skillful use of partial interests. This article focuses upon partial interests.

A partial interest is worth less than the proportionate share of the underlying asset. Partial interests can result from ownership of a portion of an asset or entity, or can be designed during the estate tax planning process. Skillful use of partial interests can dramatically reduce estate taxes. In some cases, tiers of partial interests can reduce estate taxes even further. For example, an entity that owns a series of partial interests can be owned by multiple people. Partial interest valuation values the ownership of a portion of a property, limited partnership, general partnership, corporation, LLC or LLP.

Partial Interest Valuation

Valuing a partial interest involves first valuing the underlying asset and then determining a discount for a partial interest. The valuation of a partial interest involves two separate appraisals. Partial interest valuation is more complex than most valuation problems and requires intense analysis and seasoned judgment. Reasons for performing a partial interest valuation are typically related to estate tax valuation or estate tax planning but could involve divorce, business dissolution or valuation of collateral for a bank.

Partial Interests are Worth Less

Partial interests are almost always worth less than an undivided interest. This is because they are illiquid and lack control. Partial interests are illiquid since it is difficult to sell a limited interest in a property or nonpublic company. In addition, the sale of a partial interest in many entities is subject to approval by other owners. In many cases, other owner's can choose to not allow the sale in their sole discretion without providing a reason.

Limited or Nor Control

The owner of a partial interest has less control than the owner of the entire property or entity. Even if someone owns a controlling interest their actions are subject to review and scrutiny by the owners of the balance of the property or entity. The owner of a noncontrolling interest typically has very limited ability to control decisions or influence the management and policies for a property or entity. Following are some of the detrimental effects of not having control of a property or entity:

• Cannot make decisions regarding selling the property, perhaps in advance of a declining market or for personal reasons;
• Limited or no ability to impact the quality of management or to choose a different management company;
• Limited or no ability to impact business policies;
• Limited or no ability to impact strategies or tactics;
• Limited or no ability to impact refinancing the property;
• Limited or no ability to impact the level of financial leverage.
• Discounts for a partial interest are often 20% to 50% of the proportionate value of the entire property or entity.

Some of the factors determining the degree of discount for a partial interest include the percentage of ownership, whether it is a controlling interest, asset performance, the number of partners, the relationship between the partners, issues with the property (such as risk, condition and financing), market conditions and trends, and the quality of the general partner.

The steps involved in a simple partial interest valuation are as follows:

1. Value the entire property or entity;
2. Calculate the value of the proportionate share in the property or entity (value of the entire property times percentage owned);
3. Determine the appropriate discount for the partial interest; and
4. Calculate the value of the proportionate share after the discount for a partial interest.

Partial interest valuations are more complicated when there are preferred returns and multiple types of partners.

O'Connor & Associates is the largest independent appraisal firm in the southwestern US and has over 40 full-time staff members engaged full-time in partial interest valuation and market study assignments. Their expertise includes valuing partial interests, business personal property, real estate, business enterprise value, purchase price allocation for businesses, valuation for property tax appeals, estate tax valuation, expert witness testimony and valuation for condemnation. They have performed hundreds of partial interest valuation assignments.

To obtain a quote or further information for a partial interest valuation, contact George Thomas or Craig Young at 214-331-5077 or fill out our online form.