IRS Takes Aim at Valuation Discounts for Family Controlled Entities

For years, the transfer of family-owned entities and the use of valuation discounts such as those for lack of control and marketability have been a staple of the estate planning process. These discounts allow value to be transferred from one individual to another with a reduction from the pro-rata value of up to 40% in some cases. Generally, these discounts are the result of strict verbiage in the family controlled entity’s organizational documents.

The IRS has been lobbying to have laws implemented that reduce or abolish the usage of these discounts when family members effectively retain control of a company. Although these congressional proposals were never passed into law, there are currently proposed changes to the IRS regulations contained within IRC §2704. Historically, IRC §2704 has presented strict guidelines regarding what attributes can and cannot be considered when valuing an interest in a family-owned entity such as transfer, distribution, voting, and liquidation restrictions. However, in many cases valuation specialists were still able to consider some of the attributes of the interest as stated in the governing documents if they were not overly restrictive or onerous.

Under the new proposed regulations, the ability to rely on these attributes to justify an impact on value would significantly change if the family member owners of the entity have the ability to alter these attributes. Essentially, the new regulations require a valuation specialist to ignore certain restrictions that would limit control or marketability and in some cases, require the valuator to make certain assumptions. The major changes under the proposed regulations are as follows:

  • New 3-Year Lookback Period. Transfer within 3 years of a decedent’s date of death may be added back to the estate for purposes of determining control and marketability;
  • Change in the Definition of Control. Control may be defined by either vote or value;
  • Consideration of Family Control. The determination of control will no longer be based on the interest valued if the family still retains control over the entity. It will be assumed that the remaining family could adjust the attributes of a specific interest and therefore the interest’s attributes are to be ignored;
  • Disregarded Restrictions Expansion. Any onerous restrictions beyond what would exist in a private company with unrelated parties will be ignored; and
  • Non-Family Owner Exemptions. The rights of non-family owners can only be considered if they have been an owner for at least 3 years, can liquidate in less than 6 months, and have a substantial interest as of the date of the transfer.

These new proposed changes would effectively eliminate discounts for valuations of family-controlled entities. A hearing on these proposed regulations is scheduled for December 1, 2016. Although it is expected that the proposed changes will meet significant push-back, some form of these proposed changes are expected to become effective in early 2017. Most professionals believe at this time that the IRS will allow discounts on gifts prior to the final regulations being issued, however, there is a possibility that the change may be retroactive. Now is the time to advise clients about the significance of these changes and the timing of potential transfers.

To learn more about these proposed changes and the potential impact for your clients, please contact one of our business valuation professionals.

Robert W. Carter, MS, CPA, CVA, CFE, CEPA,, 443-471-1427

Larry M. Epstein, CPA, CVA, ABV, CFF,, 443-471-2004

Stephen W. Oliner, CPA, CFE, CVA, ABV, CFF,, 443-471-2005

Robert N. Cantor, CPA, CVA, CFE,, 443-471-2044