Funding - Inappropriate Assets

Corporation and Professional Corporation Stock

S corporation stock should not be contributed to an FLP if retaining S corporation status is desired, because a partnership cannot be an S corporation shareholder. Stock in a professional corporation, such as a medical practice, is typically not a viable asset for transfer to an FLP, since state laws usually require that stock be directly held by the licensed professional.

Personal Assets

Assets held by a partnership must be related to a trade or business, investment, or income-producing venture. Thus, personal assets are inappropriate. Furthermore, a client may lose his or her homestead exemption for property tax purposes if the personal residence is used to fund an FLP.

Inherently Risky Assets

Assets and/or activities that by the nature of the business or activities incur potential risk that is not acceptable to those forming, or the participants of the family limited partnership should not be transferred to the FLP.  If one were to place guppies and sharks in the same aquarium, the guppies will soon be devoured by the sharks.  Do not place risk inherent activities with the safe assets.

Retirement Plan Accounts

Transferring retirement plan accounts, including IRAs, to an FLP triggers a taxable distribution of the account. In addition, a partnership does not qualify as a designated beneficiary of a retirement plan account so that naming the partnership as the beneficiary can result in larger minimum required distributions after the account owner’s death than if a designated beneficiary had been named.

Encumbered Property

If contributed property is subject to liabilities in excess of its adjusted tax basis, the contributing partner may be forced to recognize a gain under IRC Sec. 731(a), since a partner’s basis in a partnership cannot be less than zero. In addition, the assumption of debt by the partnership affects the tax basis of each partner’s interest under IRC Sec. 752.

Passive Loss Generators

If an active business that generates operating losses is transferred to an FLP, the limited partners probably will end up with passive activity losses. If the limited partners do not have any other passive income to offset these losses, they will be suspended until passive income is generated or until the passive activity is disposed of in a taxable disposition.

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