Recent Developments

Intercompany Management Fees: Lots of moguls have scores of entities that own separate retail operations or rental properties, management or holding companies, and other ancillary entities. Often these entities pay management fees to assure outside owners fair economic treatment, or simply to comport with arm’s length commercial practices. Sometimes, the fees are instead based on achieving personal goals, benefiting a particular child, or an entity owned by another family member. Caution is in order. In a recent case, the taxpayer’s business consisted of 5 operating corporations and a limited liability company (LLC) that leased trucks to the operating entities. The leasing LLC paid management fees of $9,000 per month to the operating entities for accounting, management, and safety and driver relations. The Tax Court denied half of the management fees because the taxpayer could not demonstrate how the fees were determined and whether they were at arm's length. The taxpayer could not convince the court that the management fees were ordinary and necessary trade or business expenses under Code Section 162 . Daniel Fuhrman , TC Memo 2011-236 (Tax Ct.). This taxpayer might have gotten off easy. What if interests in the various entities were owned by GRATs, or other tax oriented trusts. Would the payment of a excessive non-arm’s length management fee be tantamount to an impermissible additional contribution that could torpedo the entire GRAT? The moral of the intercompany fee story is that as the interconnectedness of your entities grows, and anytime tax oriented trusts are involved as owners, have your CPA or an independent consultant corroborate the reasonableness of the fees.

Passive Loss Rules: The tax laws often use a limited partnership paradigm to ascertain limited liability company (LLC) results. Sometimes the model works, but often it’s not good. The Regulations had generally used a number of factors including the presence of limited liability for determining whether a member of an LLC “materially participated.” Temp. Reg. 1.469-5T(e). If so, losses from the LLC would be deemed active and could be used to offset other active income, such as wages. The IRS has realized that the right to participate in management is a better litmus test and issued Prop. Reg. 1.469-5.

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