In 1789 Benjamin Franklin wrote that “in this world nothing can be said to be certain, except death and taxes.” In 1916 Congress passed the estate tax, juxtaposing these two certainties. One hundred years later, the Internal Revenue Service is attempting to apply the full force of the estate tax to small businesses bequeathed to family members. Now taxes will be the death of many family-owned businesses.
There are roughly 28 million small businesses currently in the United States; ninety percent of those businesses are family-owned. They employ nearly 60 percent of the workforce and an estimated 60 percent of the gross domestic product (GDP). They generate 62 percent of the country’s employment and 78 percent of all new job creation. Needless to say, small and family-owned businesses are critical to our national economy.
In addition to the significant impact they have on our economy, family-owned businesses are also staples of their communities. According to a Harvard Business Review study, family-held businesses avoid layoffs during market downturns, invest more in their employees, and create a culture of commitment and purpose. They also are often engage in the events, philanthropy, and volunteer efforts that keep their communities running.
For all these reasons, it’s imperative we protect these businesses from unnecessary obstacles that would prohibit them from succeeding. One such obstacle is an IRS proposal that would make it increasingly difficult for small-business owners to pass on their businesses to family members after death.
Currently, valuation discounts are available for family business owners for purposes of estate and gift taxes. Simply put, when the owner’s family tries to pass the business on to the next generation, these discounts are available to protect the business’s assets from undue taxation.
In many cases, the heir to a family business will receive a minority stake in the company. This minority stake is valued lower because it lacks control over management decisions in the business. These discounts take this lower value into account and ensure that the stake in the business is properly valued.
Like most things, a family-held business is only worth what someone is willing to pay for it. Under the current rules, the fair market value of an interest in a family-held business where there is no market for it is based on the “willing-buyer/willing-seller” test. This test establishes a value a willing buyer would pay for a minority stake of a family-held business. The new IRS proposal would change this system, disregarding any restrictions on liquidation or redemption an heir to a family-owned business would use to claim a valuation discount.
The IRS proposal to eliminate these discounts would force family business owners to report higher values to the Agency than they could expect to receive from a buyer, forcing them to pay higher taxes at death.
Nearly one third of family business owners have no estate plan beyond a will and only 53 percent report having a good understanding of what estate taxes could be due. Although the majority of family business owners want to pass their businesses on to the next generation, only 30 percent will be successful. A mere 12 percent of family-held businesses make it to the third generation, and only three percent to the fourth generation and beyond.
To protect the best interests of our nation’s small business owners and their families, I introduced H.R. 6042, legislation that would stop the IRS from moving forward on its new proposal.
The IRS should not be in the business of making it harder for family-owned businesses to keep their doors open, especially during a trying time such as the loss of a loved one. Our national economic outlook is precarious and full of uncertainty. It is critical we do everything we can to keep our nation’s small and family-owned businesses well and flourishing.
The views expressed by authors are their own and not the views of The Hill.