Family limited partnerships (FLP) are used to make assets unattractive to creditors. FLP assets become unattractive to a creditor. No longer can the judgment creditor execute directly upon the protected asset and force its sale. Instead the successful creditor receives a charging order from the court. This remedy is outlined by the Uniform Limited Partnership Act. This Act provides in a nutshell that the successful creditor "the assignee to receive … only the distribution to which the assignor would be entitled."
The drafters of the Uniform Limited Partnership Act inserted this charging order concept into the act to prevent the creditors of a partner from disrupting the partnership business. This is because under relevant partnership law the general partner, who is likely to be a family member or a corporation controlled by family members, can prevent distributions. The Internal Revenue Service has also held in Revenue Ruling 77-137 that the creditor with a charging order is treated as a substituted limited partner for tax purposes. As a result the judgment creditor is saddled with the tax consequences resulting from ownership without the capacity to force dissolution of the partnership or distributions from the partnership – a double whammy. Paying taxes on something they do not have which stops most creditors in their tracks cold.
FLPs are not to be expected to save income taxes; it is an asset protector. FLPs are most likely income tax neutral. However FLPs can be used to save estate taxes. FLP’s titled assets are discounted for estate tax purposes simply for one major reason. The FLP is jointly owned by multiple family members. Furthermore, the fair market value of the voting shares of the FLPs (the true owners of the FLP) are valued for far less money than for if the assets was owned independently by an unrelated third party. Assets owned independently are worth more than assets saddled with partners. Yes, other people find it hard to work with your family. As a result, the value of the FLP’s shares are worth less than otherwise owned.
As long as you are a United States citizen or resident and considering an asset protection structure, please have it implemented by a real tax expert with substantial experience. Remember, if you are ever told that an asset protection device (or indeed any foreign trust) will save you income taxes you are getting bad advice; and, in the process, probably being asked to commit a crime.
