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Thursday, May 2, 2024
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Case Studies |
Grizzly Gordon and the Ranch LLC, Part I
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Case:
Grizzly Gordon grew up in the Big Sky country. He loved the mountain and plain vistas of this beautiful ranching country. During his youth, Grizzly acquired his nickname by discovering a grizzly bear that had gotten too near his cattle. Grizzly felled the bear with one well-aimed shot and all his neighbors called him Grizzly after that experience.
Grizzly is now 72. He has been a bachelor rancher all of his life. Grizzly loves the freedom and openness of the ranching lifestyle. He also likes the fact that he is a long way from both the state and national capital. Grizzly is not a tax protestor, but he is interested in saving taxes.
Grizzly has supported his favorite charity with a $25 gift every year for the last 30 years. He decides that perhaps it's time to think about what to do with his 20,000 acre ranch when he passes away. So after receiving 42 letters and postcards from his friendly gift planner, Grizzly finally placed the call. He invited the gift planner to come out and visit him on the ranch and promised the world's finest steak dinner.
The gift planner visited Grizzly out on the ranch. It was a 90 mile trip on a paved road and then a three mile trip up a gravel road to the ranch house. The ranch dogs were friendly to the gift planner and Grizzly quickly answered his knock at the door.
Grizzly and the gift planner enjoyed a great steak dinner and talked late into the evening. Grizzly mentioned that he had a CPA in town and his CPA had encouraged him to take the ranch and put it into a single member LLC, whatever that was.
The gift planner responded that probably the CPA had created a limited liability company to own the ranch. So Grizzly responded, "Yes, I guess that Ranch LLC now owns the ranch. But I own Ranch LLC." Grizzly wondered whether he could put Ranch LLC in one of those trusts that would allow you to sell tax-free. The only hitch is that Grizzly was not ready to hang up his stirrups and wanted to continue to run the ranch until it sold.
Question:
Is there a way for Grizzly to live on the ranch and still fund a unitrust?
Solution:
Grizzly wants to live on the ranch, but he no longer has the ability to work and manage it without help. Since it is an operating ranch with land, cattle and equipment to cut and bale hay, there could be unrelated business taxable income. Under Sec. 512(c) an LLC treated as a partnership will cause the UBI to flow through to a unitrust. With an operating ranch, transfer of the LLC to a CRT could subject the unitrust to a 100% excise tax on the UBI. Sec. 664(c)(2)(A). While the tax may not be large if the asset is sold quickly, Grizzly wants to minimize the tax on UBI.
Grizzly's CPA recommended a plan to achieve all objectives. First, he contacted a farm and ranch realtor and discussed the possible options for sale of the ranch. Fortunately, there was a potential buyer who expressed interest in the ranch. The CPA told the realtor to keep the buyer "warmed up and waiting in the wings," but there was no agreement or contract for sale of the ranch. Second, Grizzly signed a charitable remainder unitrust and then transferred the entire ranch except the homestead into the unitrust with his CPA as initial trustee. By retaining the homestead, Grizzly could live on the ranch without violating Sec. 4941 Self-Dealing rules. Third, CPA as trustee contacted prospective buyer. After a short period of negotiation, buyer agreed to purchase the LLC which owned the land, cattle and equipment.
Within one month, the sale was completed. The unitrust sold the entire ranch and bypassed the capital gain on the sale. There was a modest amount of unrelated taxable income that had to be paid to the IRS as an excise tax, but that was a small cost compared to the tax savings. After the trust received the cash, CPA resigned as trustee and favorite charity assumed that role.
This "near zero" tax plan for sale of the ranch provided Grizzly with over 99% of the typical unitrust benefits. There still was a bypass of capital gain and a charitable income tax deduction, plus the favorable tax benefits of an operating unitrust.
After the sale, Grizzly used his $250,000 principal residence exclusion to sell tax-free the remainder in the homestead to new buyer. He was able to live on the ranch and assist as a volunteer in some of the ranch activities. With his new income, Grizzly became known as the area philanthropist and helped the needy throughout his county.
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