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Could rules change lead to more IRS audits?

If there is one thing government tax collectors want, it is for every taxpayer to pay his or her fair share under the law. What is considered fair may be something that is in the eye of the beholder, however.

Audits are the tool officials in Washington, St. Paul and Madison all use to explore whether suspicions that taxes have been underpaid or avoided altogether have any merit. Sometimes their conclusions are right. Sometimes they are not. In any event, when the determination leads to a dispute over taxes, the issue should not be ducked. Considering how high the stakes can be, responding to tax liability claims is a must.

Recent action by the U.S. Treasury Department suggests that the stage is being set for a new arena of confrontation. At the center of everything is a legal instrument called the Family Limited Liability Partnership.

This is an estate planning tool that family members who may be involved in a closely held business have used for years as a way to transfer assets within the family and lower any eventual estate tax liability. The problem, according to the Treasury Department, is that too many wealthy families have used provisions of this tool to undervalue their assets. As a result, officials claim they have not paid their fair share. That would change in the coming year under the recently proposed change of rules.

Right now, if a member in an FLLP holds shares but has no direct control of the business entity, say through voting rights or a right to sell shares, they can discount the value of the shares they hold. Under the proposed rule change, that would end.

It’s unclear when the new rules will be finalized or what they will actually look like, but it seems safe to say that tax collectors will be ready to enforce them when they do take effect. Individuals who might face significant tax liability would do well to be prepared.

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