DGC Enewsletter 7-10

Business Valuation Series – Estate and Gift Tax Trends
This is the second in a series of DGC articles on business valuation. We spoke with Rand Curtiss, president and founder of Loveman-Curtiss, a business appraisal firm located in Cleveland, OH, that specializes in private company valuations. Specifically, we discussed valuations for estate and gift taxation purposes.

DGC: What is the current status of federal gift and estate taxation?

RC: Under current law, no federal estate taxes have been or will be levied in 2010, but the pre-2001 tax system will be reinstituted in 2011 and beyond. Most practitioners expect Congress to eventually enact a less onerous (relative to pre-2001) tax system, but perhaps not until after the November 2010 elections as a result of purely political considerations. Most expect a larger exemption, perhaps on the order of several million dollars, with a double-digit tax rate applicable to estate values in excess of the exemption amount. Gift taxes – the lifetime and annual exclusions and the associated tax rates on amounts above them – are less controversial and are not expected to change greatly from what is currently in place.

Having said this, however, and regardless of current or eventual federal tax rules, business valuations are most certainly required in order to determine whether an estate is taxable, at what rate, and to establish the subsequent tax basis for inherited assets. Valuations are also necessary in those states which levy their own estate and gift taxes, and for charitable contributions of business interests.

DGC: How are these values established?

RC: Federal and state taxes of this type are based on the fair market value standard. Fair market value is the price that any willing buyer and seller would hypothetically negotiate, with both reasonably informed and neither under compulsion. The supporting body of law is a half-century old, with antecedents going back another half century to the establishment of the income tax. The law is fairly well-defined as a result of thousands of tax and other court decisions, although there are still a number of somewhat arcane unresolved issues. If you are interested in learning more about fair market value, please read Revenue Ruling 59-60, a very well-written and highly understandable document available on the Web.

DGC: What must be included in fair market valuations?

RC: Revenue Ruling 59-60 requires that appraisal reports explicitly consider:

The nature and history of the business
The economic and industry outlook
The book value of the company
Its earning capacity
Its dividend-paying capacity
Prior sales of company securities
The size of the interest and its control and marketability characteristics
Sale prices of similar public and private companies

Certified business appraisers have many data sources, approaches, methods, and procedures available to analyze these factors and their valuation impacts. Although the eight factors are fairly comprehensive, other considerations such as the depth and quality of management, changes in demographics, technology, and social trends, often play equally important roles in driving business values. This requires careful research on the part of the appraiser. Business valuations, although highly quantitative by nature, rest on a number of case-specific qualitative factors and judgments. Because of these qualitative factors, business valuations of all types – not just those for estate and gift taxation – are equal parts science and art.

DGC: What estate planning opportunities are available to business owners?

RC: The economy and the financial markets are slowly recovering from the recession, but there remains a very high level of uncertainty about the future despite the stream of increasingly good news reports about them.

Business values depend on three drivers: revenue, expense, and risk: what you take in, what you spend, and how certain those are. For many businesses, revenues are growing and expenses are keeping pace, meaning that earnings and cash flows are rising. But continuing uncertainty – whether or not justified by reality – means that risk remains relatively high. This depresses values.

Moreover, as the baby boom generation reaches retirement age, there is a rising and fundamental demographic need to plan for the orderly and tax-efficient transfer of business ownership and assets to succeeding generations. Business valuations are the first step in planning that process.

As to the specific mechanisms available to business owners to accomplish these objectives, the advice of qualified estate planning, tax, and accounting counsel is essential. The role of the appraiser, working with the client and their professional team, is to establish fair market value so that the other professionals can recommend the appropriate mechanisms and actions.

If you have any questions related to business valuation matters, please contact Lenny DiCicco at lndicicco@dgccpa.com or David Sullivan at dsullivan@dgccpa.com.

What to Do with an Inherited IRA
By Leanne Stafford, CPA and Amy Toro-Vega

The rules relating to Individual Retirement Accounts (IRAs) are very complicated and made more so when you inherit an IRA and you are not the spouse of the owner. It may be logical to think you can roll the inherited IRA into your own IRA tax free. Sorry, that is not the case. The only time you can roll an inherited IRA into your own IRA account is when you are the surviving spouse. However, all is not lost and there are planning techniques to work around this.

Making a direct transfer (trustee-to-trustee transfer) of the inherited IRA into a new IRA that is in the deceased owner’s name will prevent the distribution from being currently taxable to you. The new account must be kept in the name of the deceased owner to indicate that it is an inherited IRA. You would have sole control of the new IRA. You can pursue your own investment strategy, and the Required Minimum Distributions (RMDs) are usually calculated on your own life expectancy. The new account can only hold the funds rolled over from the inherited IRA. It cannot contain funds from any other sources, such as contributions you make or amounts rolled over from other retirement accounts. Also the new IRA cannot be converted into a Roth IRA.

This trustee-to-trustee transfer option is also available for nonspousal beneficiaries of other retirement plans such as profit-sharing plans, 401(k), 403(b) and 457(b) plan accounts. The Pension Protection Act of 2006 and the Worker, Retiree and Employer Recovery Act of 2008 allow for nonspousal beneficiaries to roll their inherited retirement plan account, for plan years beginning in 2010 and beyond, into a new Traditional IRA in order to maintain the tax deferral advantages. Again, the transfer must be direct trustee-to-trustee transfer. The transfer will not be allowed and the distribution will be taxable to you if the check is made payable directly to you.

The balance in the new IRA falls under the RMD rules that apply to inherited IRAs. Under these rules, you must start taking annual withdrawals from the new IRA under the same rules that would apply if the IRA has originally been owned by the deceased owner and was then inherited by you. Usually your RMDs are calculated based on the life expectancy method. When the original plan participant dies before the RMDs have started the plan may require you to use the five-year rule. This is when the account must be distributed within five years after the year of death. However, you can avoid the five year rule by completing the rollover during the year of death or by the end of the following year. You will need to make sure the receiving IRA allows distributions to be made using the life-expectancy method.

Please consult with us before you take any distributions from an inherited IRA or retirement plan. We may be able to help you set up a tax-free direct transfer of your inherited IRA or retirement plan to a new IRA and as a result keep more of the IRA assets for yourself and not Uncle Sam.

Getting the Most Out of Your Energy Dollars
By Bob Calzini, CPA

Today, it is crucial for property owners to ensure that they maximize the benefit of every dollar spent. One area where there may be potential savings is energy costs by bundling your usage with those of other properties. The opportunity exists for electricity, natural gas, water and sewer.

Energy bundles provide the ability to create buying power by pooling utility costs and creating a reverse auction where utility companies compete against each other and effectively bid down the price of the services. This is ideal for property owners who have multiple properties or apartment buildings with separate meters.

Once the properties are identified, all you need is a copy of the most recent utility invoice for the property. That property information is included in an auction, on a secure website, and combined with other properties and bundled together to create buying power. If you do not want to pool your property with others, you can choose to have only your properties included in the auction. Energy companies then have 15 minutes to bid against each other to provide the best price for the services.

The savings can be significant. The best part, there is no cost to you to participate in the auction. To hear more about this, contact your DGC representative.

July 22 - REFA – Interest Rate Hedging
July 22 - ACG Emerging Professionals Networking Event
July 27 - REFA Emerging Leaders Lunch