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Single Member LLCs and Estate and Gift Tax Treatment

This proposed topic is submitted on behalf of the Estate and Gift Tax Committee of the Taxation Section of the State Bar of California.

Summary of Proposed Topic

Under the “check-the-box” regulations, entity classification is simplified.  Under these rules, single member LLCs are, by default, disregarded for income tax purposes.  These rules, however, do not specifically address the classification of these entities for estate and gift tax purposes.

The problem currently faced by taxpayers which is addressed by this paper, is the classification of a single member LLC from an estate and gift tax perspective.  Because many states instituted their own death tax system after the repeal of the state death tax credit, the manner in which an individual holds title can affect which state imposes taxation on assets held in an entity.  If property is held in an LLC with more than one member, the entity is taxable for state death tax purposes in the state of the LLC’s formation and the entity is recognized for income tax purposes.  There is, therefore, no reason for nonrecognition for estate and gift tax purposes.

On the other hand, if property is held in an LLC with only one member, the LLC can be disregarded for income tax purposes.  If that single member LLC is also disregarded for estate and gift tax purposes, there is an argument that the entity may be subject to death tax in the jurisdiction where the assets are held (if the assets consist of real or tangible property) instead of in the jurisdiction where the LLC is formed.  In essence, the underlying assets are taxed, not the LLC itself.

To “maintain” consistency between the death tax treatment of all LLCs (regardless of whether they have a single member or multiple members), this proposal is requesting clarification that a single member LLC that is disregarded for income tax purposes is not similarly disregarded for estate and gift tax purposes.

To read this proposal in its entirety, please click here to download a PDF copy.

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