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Disputes over a company's value are a leading cause of tax challenges between the IRS and business owners. Charged with the task of generating revenue for the government, the IRS wants to set your company's value as high as possible. You, on the other hand, want to keep it low for equally valid reasons. If the government wins, there's a chance your heirs could be forced to sell all or a portion of the business to meet these tax obligations.
You may be able to reduce this potential for dispute by establishing now, within your succession plan, a bona fide value of your company. Fair market value is usually defined as "the amount a willing buyer would pay to a willing seller with neither being under any compulsion to conclude the transaction." A small company may be able to determine its fair market value through research, guidance from its financial advisors, and by following the IRS guidelines. In larger companies, an independent appraisal may be more beneficial. In fact, a qualified independent appraiser can be an invaluable ally in a tax dispute with the IRS.
Once you've established the fair market value of your business, two discounting methods may be applicable during ownership transfer. These discounts help lower the business valuation at the time of transfer and reduce your taxes in the process. The use of either or both discounting methods will depend upon your specific situation.
For example, if you're a shareholder in a closely-held, non-publicly traded company, the "lack of marketability discount" could be applied. In this situation, a buyer or successor could not be expected to pay the full market value of your shares due to the lack of a readily accessible market for a future sale of those shares.
As a minority shareholder, you may be able to take advantage of the "minority discount." With less than 50% ownership, your lack of majority control lowers the value of your shares to your heirs or an outside buyer, again reducing the asset value that is subject to transfer taxes.
Please contact your legal and tax professionals for more information about this topic.