On the Rise and Fall of Limited Partnerships

Posted on January 24, 2011 by Dr. David Edward Marcinko MBA MEd CMP™

Taking A Historical Look at this Investment Vehicle

By Dr. David Edward Marcinko MBA CMP™

www.CertifiedMedicalPlanner.com

[Publisher-in-Chief]

Back in the 1980s – a time I am loathe admitting that I remember well – limited partnerships (LPs) were all the rage and often touted as the investment vehicle of the future; especially to tax-averse physicians and high income medical professionals and investors.

Oil and gas and real estate LPs dominated the market. But, there were also cattle feeding, master recording disks, equipment and aircraft leasing, and cable TV investments. The LP heyday was 1983 through 1989, and most early LPs were private or non-publicly traded.

Popularity Rising

Why were they so popular? LPs provided the benefits of direct ownership (income potential and tax benefits) without management responsibility and personal liability. Losses were limited to one’s original investment. Brokerage firms pushed them hard, paying their sales representatives [financial advisors?] the highest commissions and often characterizing these risky investments as “safe” and a “means of capital preservation.”

Early ’80s

In the early 80s, investors could use depreciation, interest, and investment tax credits to offset not only LP income but ordinary income from salary and other investments. This was a huge incentive for high income earning doctors. In 1981, the Tax Act allowed accelerated depreciation for real estate, and non-recourse debt was treated as depreciable cost (partners bore no risk of economic loss). Soon, the IRS began to attack LPs. Both real estate and oil and gas values declined. LPs soon became illiquid investments, producing little or no return.

’86 Tax Act

Then came the Tax Reform Act of 1986 (TRA), which brought with it “at risk” limitations to real estate tax shelters and the new passive loss provisions. LP sales then spiraled downward. The ’86 Tax Law provided that limited partners could not increase their basis in the LP for their share of partnership debt unless they were personally liable for repayment or if the lender had an interest other than as a creditor (unless “qualified non-recourse debt” was used).

1990s

In the ’90s, investors either hung on to – or sold – their LP investments in the secondary market. Investors were subject to substantial discounts upon sale and they had to recapture tax benefits previously received (including those from non-recourse financing).

Assessment

Simply abandoning these investments did not avoid unfavorable tax consequences, such as the decrease in a partner’s share of partnership liabilities being treated as a cash distribution. Capital gains were recognized to the extent that a partner’s share of partnership liabilities exceeds the adjusted basis of the partner’s interest.

Note: “What Happened to Limited Partnerships?” Lee Knight and Ray Knight Journal of Accountancy, July 1997, pp. 37–42, American Institute of Certified Public Accountants.

Conclusion

And so, your thoughts and comments on this ME-P are appreciated. Were you burned by LPs back in the day, or have a LP story to tell us? Please opine. Feel free to review our top-left column, and top-right sidebar materials, links, URLs and related websites, too. Then, subscribe to the ME-P. It is fast, free and secure.

Speaker: If you need a moderator or speaker for an upcoming event, Dr. David E. Marcinko; MBA – Publisher-in-Chief of the Medical Executive-Post – is available for seminar or speaking engagements. Contact: MarcinkoAdvisors@msn.com and http://www.springerpub.com/Search/marcinko

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Proposed Disallowance of Fair Market Value for FLPs

Posted on February 4, 2009 by Dr. David Edward Marcinko MBA MEd CMP™

On the HR 436 Proposal for FLPs

By Linda Trugman; CPAtrugman, MBA, ABV, ASA, MCBA

On January 9, 2009 the US House of Representatives introduced HR 436. The Bill would establish the federal estate tax exemption at $3,500,000, and set the tax rate for estates exceeding that amount at 45 percent, eliminating the currently scheduled 2010 phase-out and subsequent reversion to pre-Bush tax cut levels with the $1 million exclusion and a 55 percent tax rate.

Estate Planning Technique Elimination

Importantly, the Bill, if enacted as proposed, would remove a popular estate planning technique by eliminating most discounts associated with what is referred to generically as family limited partnerships [FLPs, a general term applied to closely held asset holding companies often holding non-business assets].

FLP Non-Controlling Interests

Currently, when a physician-investor or any other individual transfers a non-controlling interest in a FLP, whether by gift or at death, the interest is valued at the price that a willing buyer would pay for the partnership interest, or fair market value. Since such FLP interests are not publicly traded, and do not represent a controlling interest in the partnership, business appraisers often assign substantial discounts in valuing these interests.

Case Model:

For example, a 10 percent limited partnership interest in a partnership that holds $1 million worth of securities would not be valued at $100,000 under current law. Rather, because a buyer of the partnership interest cannot sell the interest on the open market, nor exert control prerogatives on the partnership, he or she would pay materially less for the interest [perhaps 30 percent to 50 percent less]. 

Elimination of FMV Standards

The Bill as drafted would be effective for transfers occurring after the date of enactment. However, there is always the possibility that any final statute might be applied retroactively. While the fate of this piece of legislation is uncertain, it may reflect the attitude of the new administration towards keeping and strengthening the estate tax. 

If HR 436 becomes law, appraisers would no longer be allowed to apply Fair Market Value standards to valuing these non-control FLP interests; they would not be able to apply any discounts to “non-business” assets held by partnerships or other entities. Instead, those assets would be valued as though they were transferred directly to the recipient. 

Assessment

The Bill as drafted would be effective for transfers occurring after the date of enactment. However, there is always the possibility that any final statute might be applied retroactively. While the fate of this piece of legislation is uncertain, it may reflect the attitude of the new administration towards keeping and strengthening the estate tax. I have attached the proposed legislation to this post.

File:  hr-436 

Conclusion

And so, your thoughts and comments on this Medical Executive-Post are appreciated.

Speaker: If you need a moderator or speaker for an upcoming event, Dr. David E. Marcinko; MBA – Publisher-in-Chief of the Executive-Post – is available for seminar or speaking engagements. Contact: MarcinkoAdvisors@msn.com  or Bio: www.stpub.com/pubs/authors/MARCINKO.htm

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