If the seller disposes of the note (or if the child disposes of the purchased property within two years after its purchase), the gain on the sale is accelerated. The interest and principal that must be paid are taxable to the seller. While an installment sale may “freeze” the value of the parent-seller’s business interest for estate tax purposes, there are some disadvantages to consider: Using this approach, the gain realized on the sale would be recognized, and taxed as capital gain, as principal payments are made interest would be taxable as ordinary income. State the value of the business interest as established by an appraisal. Require regular payments by the terms of the sale and note agreements and. Have a term not exceeding the seller’s life expectancy. Be secured (at least by the transferred property). Be memorialized in writing (with a note and sale agreement). Bear a statutorily prescribed minimum rate of interest. In order to avoid gift characterization of any portion of the sale transfer, the child’s installment obligation should: Where the interest sold was a capital asset (as is typically the case), the sale of which generates long-term capital gain, the 20% federal capital gains rate would apply to the amount recognized, and the 3.8% federal surtax on net investment income may also apply.Ī sale may be structured as an installment sale in order to defer this income tax liability i.e., in exchange for the child’s promissory note. Such a sale of a business interest to one’s children will usually come with a cost: income tax. Moreover, the sale allows the parent to effectively “freeze” the value represented by the interest at its sale price – by exchanging the interest for non-appreciating cash or other property – and to shift any future appreciation in the interest (above the sale price) to the child. If a parent sells a business interest to his or her child for consideration in an amount equal to the value of such interest at the time of the sale, no gift occurs. In fact, if the parent needs a flow of funds in respect of the business interest, a sale presents an attractive option.Ī sale is also an effective tool where the parent wants to shift the future appreciation in the value of the business interest out of his or her estate, but the parent’s remaining gift tax exemption amount is insufficient to cover the transfer. Thus, it not unusual for a parent to sell a business interest to a child. The most common means for transferring a business interest to someone is through a sale of the interest. To better appreciate the import of the IRS’s decision, the following outlines the basic tax consequences of the sale technique, and then discusses the addition to the “no-ruling” list. While many estate practitioners employ sales to grantor trusts to effect the transfer of interests in closely held business entities, many fail to explain to the client (and the client’s beneficiaries) the tax risks associated with this technique upon the premature death of a client. 
Whether the assets in a grantor trust receive a section 1014 basis adjustment at the death of the deemed owner of the trust for income tax purposes when those assets are not includible in the gross estate of that owner under chapter 11 of subtitle B of the Internal Revenue Code.Īlthough this addition to the no-ruling list may be disturbing to some, it is actually a welcome development insofar as it may lead to the resolution of a tax issue that accompanies a commonly-used estate planning technique for the transfer of interests in a closely held business: the sale to an “intentionally defective” grantor trust. Basis of Property Acquired from a Decedent. Typically, these are areas of the tax law that are under study at the IRS, and that the IRS hopes to address through the publication of a revenue ruling, a revenue procedure, regulations, or otherwise.Ī couple of months ago, the IRS added the following item to the list: At the beginning of every year, the IRS informs the public of those tax matters on which the IRS will not issue letter rulings.
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