Economic Uncertainty: A Certain Time to Reevaluate and Estate Plan
The United States is currently experiencing a multitude of events that beg the question: “Is a recession coming?” From record high inflation to rising interest rates, the strength of the U.S. economy appears to be uncertain. In times of economic uncertainty, estate planning may be the last thing on an individual’s mind. However, a robust estate plan can afford an individual significant tax savings and can provide ease of mind for the individual and his or her family members. A succession plan is an important element to an estate plan, particularly for an individual who is a closely held business owner, who owns a substantial real estate portfolio, or who owns appreciated marketable securities. The current economic uncertainty—combined with the coming reversion (to pre-Tax Cuts and Jobs Act levels at the end of 2025) of the estate and gift tax exclusion amount and the generation skipping transfer tax exclusion amount—makes now the right time to reevaluate an estate plan. This discussion describes three typical succession plan scenarios, including consideration of the plan goals and the tactics for achieving those goals.
Understanding the Grantor Retained Annuity Trust
This discussion focuses on the creation and administration of a grantor retained annuity trust (also known as a “GRAT”) for estate planning purposes. This discussion describes the basic principles of the GRAT creation. In particular, this discussion explains the many factors that a typical high net worth individual should consider in the process of assessing the pros and cons of the GRAT creation. With regard to the GRAT creation, these factors include both administrative issues and financial issues. Finally, this discussion reviews both the benefits and the risks of the GRAT creation as part of an estate plan.
Disguised Dividends and Shareholder/Employee Compensation
The reasonableness of shareholder/employee compensation in a closely held corporation is an important and often controversial issue. The Internal Revenue Service sometimes alleges that shareholder dividend payments are disguised as a management fee, executive bonus, or “catch-up” payment. In whatever form the shareholder/employee compensation is reported, closely held company owners often rely on analysts to help them determine a reasonable level of executive compensation in order to respond to Internal Revenue Service challenges. This discussion (1) reviews statutory authority and judicial precedent regarding reasonable compensation for shareholder/employees and (2) summarizes some of the shareholder/employee compensation issues from recent judicial decisions.
Valuation of Promissory Notes for Transfer Tax Purposes
To estimate the fair market value of a promissory note, the valuation analyst typically considers the professional guidance provided by the Internal Revenue Service, particularly in Revenue Ruling 67-276. Revenue Ruling 67-276 states “the existence of an over-the-counter market for such securities and the quotations and opinions of value provided by brokers and real estate appraisers will not be accepted as conclusive evidence of the fair market value of such securities.” This Revenue Ruling also indicates that the analyst who estimates the fair market value of a promissory note should consider (1) all available financial data and (2) all relevant factors affecting the fair market value.1 However, this professional guidance may be too general for the individual analyst developing a particular promissory note valuation. First, this discussion summarizes relevant regulations and judicial decisions with regard to transfer-tax-related promissory note valuation. Second, this discussion summarizes the generally accepted promissory note valuation methodologies considered both in relevant judicial decisions and in the professional valuation literature.
1 Internal Revenue Service Technical Advice Memorandum 8229001 (February 1, 1982)
Valuation Considerations for Preferred Equity Interests
The valuation of preferred equity interests is often influenced by the market-based yields for comparable publicly traded securities. The yields of publicly traded preferred equity securities are typically correlated with corporate bond yields. Therefore, rising interest rates may create opportunities to transfer preferred equity interests at a valuation discount (compared to the stock’s par or stated value). This discussion presents (1) Internal Revenue Code professional guidance with respect to the valuation of preferred equity interests, (2) a summary of the generally accepted procedures for developing the valuation of preferred equity interests, and (3) an illustrative example of a preferred equity interest valuation with consideration to the impact of rising interest rates.
Climate Change and Business Valuation
Following the departure of three ExxonMobil board members in an environmental, social, and governance (“ESG”) proxy fight, interest has increased in ESG procedures and processes, for both defensive and offensive board applications. ESG business valuation considerations can vary based on numerous factors. Adding to these differences are regional governmental policies. Europe has taken a firm stance in applying a more rigorous ESG framework, and it is a major force in industry rules creation. Each year, governing ESG authoritative entities, from across the world, along with their procedural frameworks, continue to coalesce in their processes. One framework is available for the valuation analyst’s consideration. This framework is incorporated in the Essential Guide to Valuations and Climate Change, produced by the Chartered Professional Accountants of Canada. This discussion looks at this Canadian framework and also considers other frameworks.
Estimating the Blockage Discount in the Fair Market Value of Publicly Traded Company Restricted Stock
In valuations developed for gift tax, estate tax, and generation-skipping transfer tax purposes, the fair market value of publicly traded stock may become a controversial issue. Such controversy may arise when the ownership interest of the publicly traded stock is restricted. And, such controversy may arise when the subject block of stock is so large relative to the stock’s daily trading volume that it cannot be sold in open market transactions at the quoted trading prices without exerting negative price pressure on the stock. This discussion summarizes the factors to consider and the procedures that are generally relied on to develop an analysis of the difference between (1) the price of the block of stock based on the quoted stock price and (2) the fair market value of the subject block of stock. This value difference is typically referred to as the blockage discount.
Noncompete Agreement Taxation and Valuation Considerations in Corporate Acquisitions
Corporate acquirers expect certain contractual protections for their investments in merger and acquisition (”M&A”) transactions. Typically, acquirers expect sellers to enter into noncompetition agreements as part of the M&A transaction. This acquirer expectation relates to the sale of a subsidiary target company by a parent corporation, and this acquirer expectation relates to the sale of a private target company by the selling stockholder/employees. There are legal considerations to the transaction counterparties related to the structuring of the noncompete agreement provisions. And, there are taxation considerations for the transaction counterparties related to the valuation of the noncompete agreement provisions. Valuation analysts (“analysts”) who advise in M&A transactions should be aware of both the taxation considerations and the valuation considerations related to noncompete agreements. Analysts can assist the transaction counterparties and their legal counsel by developing noncompete agreement fair market valuations that may be used for both (1) the seller’s transaction sale price allocation and (2) the acquirer’s transaction purchase price allocation.
Best Practices for Property Appraisals within a Bankruptcy Context
This discussion considers the reasons why an appraiser may be asked to develop a debtor entity property appraisal within the context of a bankruptcy proceeding. For purposes of this discussion, the term property includes (1) real estate and real property, (2) tangible personal property, and (3) intangible personal property. This discussion focuses on defining the scope of the bankruptcy-related property appraisal. And, this discussion also considers best practices with regard to the development of—and the reporting of—the bankruptcy-related property appraisal.
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