CEA Business Succession Planning 4 — Questions and Answers
Question 1: Which IRS revenue ruling established the framework for valuing minority interests in closely held businesses for gift and estate tax purposes?
- Rev. Rul. 59-60
- Rev. Rul. 93-12 (Correct answer)
- Rev. Rul. 68-609
- Rev. Rul. 77-287
Correct answer: Rev. Rul. 93-12
Rev. Rul. 93-12 established that minority discounts apply even when a family collectively controls a business, rejecting family attribution for valuation purposes.
Question 2: A business owner age 72 wishes to pass the business to her children with minimal estate tax. Which strategy is generally LEAST suitable given her age?
- GRAT with a 10-year term (Correct answer)
- Outright gift using remaining lifetime exemption
- Installment sale to an IDGT
- ESOP with an IRC 1042 rollover
Correct answer: GRAT with a 10-year term
A GRAT fails if the grantor dies during the term; at age 72 a long-term GRAT carries significant mortality risk, reducing its effectiveness.
Question 3: When a buy-sell agreement sets the price using a fixed value that has not been updated for several years, what is the GREATEST risk?
- The IRS will disregard the agreement entirely
- The fixed price may no longer reflect fair market value, leading to a loss for one party (Correct answer)
- The surviving owners will owe self-employment tax on the purchase
- The life insurance proceeds will be subject to income tax
Correct answer: The fixed price may no longer reflect fair market value, leading to a loss for one party
A stale fixed price can dramatically undervalue or overvalue the business, creating an economic windfall or loss for the buyer or seller at the triggering event.
Question 4: Which of the following is a key advantage of a stock redemption (entity purchase) buy-sell agreement compared to a cross-purchase agreement for a corporation with many shareholders?
- Each surviving shareholder receives a step-up in basis on the redeemed shares
- Administrative simplicity because the entity — not each individual — holds the insurance policies (Correct answer)
- The IRS cannot characterize the redemption as a dividend
- Premiums paid by the corporation are income-tax deductible
Correct answer: Administrative simplicity because the entity — not each individual — holds the insurance policies
In an entity purchase plan, the business owns one policy per owner, avoiding the n×(n-1) policy proliferation required in a cross-purchase arrangement.
Question 5: A private annuity used in business succession requires that payments to the seller:
- Continue for a fixed term regardless of the seller's life
- Cease at the seller's death, with no remaining obligation to the estate (Correct answer)
- Be secured by a formal lien on the transferred business assets
- Equal at least the applicable federal rate (AFR) set by the IRS
Correct answer: Cease at the seller's death, with no remaining obligation to the estate
A private annuity is an unsecured promise to pay for the seller's lifetime; payments stop at death, and nothing passes to the seller's estate from the annuity obligation.
Question 6: Under the IRC Section 303 redemption, the proceeds received by the estate to pay estate taxes and funeral/administration expenses are treated as:
- Ordinary income to the estate
- Capital gain to the extent basis is exceeded
- A tax-free return of basis up to the amount of estate taxes and qualifying expenses (Correct answer)
- A dividend distribution subject to double taxation
Correct answer: A tax-free return of basis up to the amount of estate taxes and qualifying expenses
Section 303 allows a corporation to redeem stock from an estate in an amount limited to estate taxes and deductible administration expenses, taxed as a sale rather than a dividend.
Question 7: Which type of business entity can NOT use an S corporation election to pass through income and losses to owners, making it generally less flexible for multi-generational succession planning involving trusts?
- A family limited liability company (LLC)
- A general partnership
- A C corporation seeking pass-through treatment (Correct answer)
- A limited partnership
Correct answer: A C corporation seeking pass-through treatment
Only certain IRS-qualifying entities can elect S corporation status; a C corporation can elect S status, but S corporations face restrictions on the types of trusts that can be shareholders, limiting trust-based succession.
CEA Business Succession Planning 4
Which IRS revenue ruling established the framework for valuing minority interests in closely held businesses for gift and estate tax purposes?