Carried Interest May Provide Interesting Strategy for Reducing Estate Taxes
Compensation in the form of a carried interest has been a means of incentivizing the fund sponsor and aligning goals of both the fund management and fund investors. The topic has been heavily debated in recent days as the Obama administration looks at changing taxation on carried interest as a line item in the FY ‘14 budget. While the arguments swirl on both sides of the debate, the fact remains that there are some interesting estate planning strategies which involve carried interests that may reduce estate taxes paid.
The strategies are not one size fits all and need to be considered in context within overall individual and estate plans. There are four key considerations when looking at this strategy:
1. The carried interest
2. The estate tax reduction
3. Valuation considerations
4. IRS special valuation rules.
It is important to understand the structure of the fund and compensation plans that are in place as the evaluation process proceeds. Elements to be evaluated are stock classes, hurdle rates, the value of the carried interest and clawbacks. All of this needs to be balanced with IRS regulations and pronouncements.
A successful estate tax reduction plan begins with two key items: choosing assets with significant appreciation potential and then transferring those assets at a point in time when they are low in value relative to the possible appreciation. It is also necessary to find the right vehicle to provide asset protection. . A grantor trust is a common vehicle to consider when utilizing this strategy.
The valuation considerations are key to a successful estate planning strategy that involves carried interest compensation. By gifting the carried interest at a relatively low value, the holder of the interest can circumvent gift and estate taxes in the event of future appreciation of the carried interest value.
Finally the IRS has special valuation rules related to wealth transfer planning with carried interests. Chapter 14 of the Internal Revenue Code and specifically Section 2701 proscribe the rules and processes that apply to using a carried interest estate planning strategy.
With proper planning, a carried interest received by the management team of a private equity fund can be an ideal asset for use in estate planning. Our white paper titled “Estate Tax Reduction Strategies for Private Equity Owners” provides an in - depth examination of this topic. Click here to view the entire white paper.
The strategies are not one size fits all and need to be considered in context within overall individual and estate plans. There are four key considerations when looking at this strategy:
1. The carried interest
2. The estate tax reduction
3. Valuation considerations
4. IRS special valuation rules.
It is important to understand the structure of the fund and compensation plans that are in place as the evaluation process proceeds. Elements to be evaluated are stock classes, hurdle rates, the value of the carried interest and clawbacks. All of this needs to be balanced with IRS regulations and pronouncements.
A successful estate tax reduction plan begins with two key items: choosing assets with significant appreciation potential and then transferring those assets at a point in time when they are low in value relative to the possible appreciation. It is also necessary to find the right vehicle to provide asset protection. . A grantor trust is a common vehicle to consider when utilizing this strategy.
The valuation considerations are key to a successful estate planning strategy that involves carried interest compensation. By gifting the carried interest at a relatively low value, the holder of the interest can circumvent gift and estate taxes in the event of future appreciation of the carried interest value.
Finally the IRS has special valuation rules related to wealth transfer planning with carried interests. Chapter 14 of the Internal Revenue Code and specifically Section 2701 proscribe the rules and processes that apply to using a carried interest estate planning strategy.
With proper planning, a carried interest received by the management team of a private equity fund can be an ideal asset for use in estate planning. Our white paper titled “Estate Tax Reduction Strategies for Private Equity Owners” provides an in - depth examination of this topic. Click here to view the entire white paper.
