Intra-family and Business Transfer Techniques

Intra-family and business transfer techniques are essential estate planning strategies that enable business owners to transfer wealth to the next generation while minimizing gift and estate taxes. These strategies take advantage of valuation discounts, installment payment structures, and partnership arrangements to efficiently move business interests out of the taxable estate.

Overview of Intra-Family Transfer Techniques

The primary goal of intra-family transfer planning is to move appreciating assets out of the senior generation's estate at reduced values, allowing future appreciation to pass to heirs free of transfer taxes. Key considerations include:

• Timing: The current federal estate tax exemption ($15.00 million per individual in 2026) provides significant transfer opportunities
• Valuation: Proper valuation is critical; discounts can significantly reduce taxable values
• Control: Many techniques allow the transferor to retain some control while removing assets from the estate
• Business Purpose: Transfers must have legitimate non-tax purposes to withstand IRS scrutiny

Buy-Sell Agreements

Buy-sell agreements are contracts that establish how ownership interests will transfer upon triggering events such as death, disability, retirement, or divorce. They provide liquidity, establish value, and ensure business continuity.

Cross-Purchase Agreements

In a cross-purchase agreement, the remaining owners personally purchase the departing owner's interest. Key characteristics:

• Step-up in basis: Surviving owners receive a stepped-up cost basis in the acquired shares
• Policy ownership: Each owner purchases life insurance on the other owners
• Number of policies required: N x (N-1), where N = number of owners
• Premiums paid with after-tax dollars: No corporate tax deduction
• Proceeds protected: Insurance proceeds not subject to corporate creditors

Entity Redemption (Stock Redemption) Agreements

In an entity redemption agreement, the business entity purchases the departing owner's interest. Key characteristics:

• No basis step-up: Surviving owners' basis remains unchanged
• Simpler administration: Only one policy per owner needed
• Premiums paid by business: May use pre-tax dollars (depending on entity type)
• Connelly v. IRS impact: Following the 2024 Supreme Court decision, insurance proceeds owned by the entity may increase estate value

Comparison: Cross-Purchase vs. Entity Redemption

Valuation Discounts

Valuation discounts reduce the fair market value of transferred interests for gift and estate tax purposes. The IRS accepts these discounts when properly supported, per Revenue Ruling 93-12.

Minority Interest (Lack of Control) Discount

A minority interest discount (also called lack of control discount or DLOC) applies when the transferred interest does not convey control over the entity. This discount recognizes that minority owners:

• Cannot unilaterally liquidate the company
• Cannot control dividend distributions
• Cannot dictate management decisions
• Cannot set executive compensation
• Have limited influence over business operations

Typical range: 15-40% depending on the degree of control limitations

Lack of Marketability Discount (DLOM)

A lack of marketability discount applies to interests that cannot be readily sold on a public market. Factors affecting this discount include:

• No ready market exists for privately-held interests
• Restrictions on transfer in partnership or operating agreements
• Difficulty finding buyers for illiquid interests
• Time and expense required to sell the interest

Typical range: 20-35%, though combined discounts can reach 40-50%

Blockage Discount

A blockage discount applies when a large block of property (such as real estate, art, or stock) would depress market prices if sold all at once. This discount recognizes that:

• Dumping large quantities on the market reduces prices
• Orderly liquidation takes time and reduces present value
• Applies to concentrated positions in a single asset

Typical range: 10-30% depending on market conditions and block size

Key Person Discount

A key person discount applies when the business's value depends heavily on a specific individual whose departure would negatively impact operations. Factors considered:

• Unique skills or relationships of the key person
• Dependence on the individual for revenue generation
• Absence of succession planning
• Age and health of the key person

Typical range: 10-25%, though higher discounts may apply in extreme cases

Stacking Discounts

Multiple discounts may apply to the same transfer, but they are applied successively, not additively:

Example: $10 million interest with 25% DLOC and 30% DLOM

• After DLOC: $10M x (1 - 0.25) = $7.5M
• After DLOM: $7.5M x (1 - 0.30) = $5.25M
• Total effective discount: 47.5%

SCIN vs. Private Annuity Comparison

Both Self-Canceling Installment Notes (SCINs) and private annuities are techniques for selling assets to family members while removing appreciation from the estate. Both work best when the seller has a shorter life expectancy than actuarial tables predict.

Self-Canceling Installment Note (SCIN)

A SCIN is an installment note that automatically cancels upon the seller's death, with the unpaid balance excluded from the estate.

Key features:

• Fixed payment period (cannot exceed seller's life expectancy)
• Must include a "risk premium" (higher interest rate or principal)
• Security/collateral is permitted
• Interest portion deductible by buyer
• Gain recognized if seller dies before note paid off
• Buyer takes basis equal to purchase price at inception

Private Annuity

A private annuity provides lifetime payments from the buyer to the seller in exchange for the transferred asset.

Key features:

• Payments continue for seller's lifetime
• No security or collateral allowed
• Interest portion NOT deductible by buyer
• No gain recognition at seller's death on unpaid amounts
• Basis may be more or less than FMV depending on timing of death

SCIN vs. Private Annuity Comparison Table

Partial Sale/Gift Transactions

A partial sale/gift transaction (bargain sale) involves selling an asset for less than its fair market value. The difference between FMV and sale price is treated as a gift.

Example: Parent sells $1 million property to child for $600,000

• Sale portion: $600,000 (subject to capital gains on applicable portion)
• Gift portion: $400,000 (subject to gift tax rules)

Advantages:

• Removes appreciation from estate
• Generates some cash for transferor
• Uses less gift tax exemption than outright gift

Considerations:

• Must allocate basis between sale and gift portions
• Both capital gains and gift tax may apply
• IRS may challenge if sale price is too low