By Neil Pascale
A change in the federal government’s tax credit system figures to have an effect on how and possibly when dealer principals turn the ownership of their stores over to family members.
Using tax credits, or tax-free gifts, to convert the ownership of a store from a dealer to a son, daughter or any other family member is fairly common, said Jim Krendl, a Denver attorney who has been involved in dozens of dealership acquisitions.
There are principally two types of tax-free gifts that dealer principals can consider, one of which is scheduled to undergo quite a change next year and in the future. The latter tax-free gift is the lifetime estate and gift tax credit, which allows a person to make a one-time, tax-free gift of $2 million to any person or group of people they choose.
Although this type of gift is often used in inheritance situations, it can be used in a person’s lifetime, said Krendl, who spoke at a conference dealing with Harley-Davidson acquisitions in April.
“If you use it during your lifetime, you are required to report it because it reduces the tax-free” funds you have available upon death, he said. “And the government keeps track of that.”
So using the lifetime gift tax credit could increase the amount of inheritance taxes upon a person’s death, although Krendl noted that “no one knows for sure what the estate tax will be in the future, and therefore we don’t know how much that will cost.”
The amount of the one-time, tax-free gift could be doubled if a husband and wife combine their lifetime tax credit, thus allowing a family member or group of family members to receive up to $4 million.
To stay sheltered from taxes, the gift has to be given to a family member. It cannot, for instance, go to a trusted dealership employee, Krendl noted.
The total amount of the one-time tax-free gift will be rising in the future, which could make some dealers think twice about giving such a gift this year. The one-time tax-free gift limit will rise to $3.5 million next year and stay at that amount until 2009. But, there is no current cap for the one-time gift for 2010, something Krendl doesn’t foresee continuing.
“Most lawyers believe that between now and 2010 there will be a major revamping (of the law) so that we will have a permanent, long-term lifetime exemption,” he said.
The second and more common form of tax-free credit is the annual gift, which can be up to $12,000 per person. The gift-giver can give as many $12,000 gifts to as many people as he/she wishes per year, providing they don’t exceed the $12,000 amount.
However, a gift-giver can give twice that amount to a married couple, say their daughter and son-in-law.
Krendl said no reporting or complicated procedures are attached to that yearly gift. “Just don’t exceed the annual gift because there are tax complications” if that happens, he said.
Although the yearly gift is the most common form of transferring control of the business, there are reasons for dealers to consider the one-time tax gift.
“If you have a son or a daughter to whom you thought you were going to leave the business someday to anyhow, there are a lot of reasons why you would prefer to give them a $2 million inheritance today tax-free than wait until you die,” Krendl said. “Among other things, the asset is likely to appreciate over the future years and you measure the value of the gift at the moment you give it to them. Two million today may be a lot more valuable than $2 million off in the future someday upon death.”
When a large sum of money is transferred from one individual to another — even if it’s a family member — there should be caution about how it’s done, Krendl said.
“I would add a lot of the same cautions that I would add in dealing with an employee: Be careful of how you do it, and have a way to untangle it,” he said.
That’s not an easy thought for many people.
“Invariably a client will say, ‘But my son would never give me trouble. He’s a good kid,’” Krendl said. “And the answer to that is, ‘Well, is he single? Is he going to get married someday? If he gets married, he might have a divorce. Might that asset end up in a divorce court? Wouldn’t you feel better if you had some strings on it.’”
The same could be said for an unforeseen situation, like a son or daughter deciding to change careers.
“If you’re going to give a minority stock interest to your son or daughter, then you very well might want to have a repurchase agreement that says if you don’t get along or they change their mind about the kind of career they want, there’s a legal way to untangle it without having the stock irrevocably committed,” Krendl said. “There’s nothing wrong with giving somebody a gift and then at the same time having them enter in a buy-sell arrangement at a fair price that allows a mechanism for taking the stock back at some point.”
The buy-sell agreement also could detail the current dealer’s continued salary, their role on a board of directors and a “trigger mechanism” that would allow the dealer to repurchase the store upon termination of their family member from the dealer principal position.