Keeping a family-based wine or vineyard business alive from one generation to the next is difficult enough, as was seen in a recent industry survey that one in three vintners wants to get out in coming years. But many small to relatively large family operations may be able to avoid an estate-tax "liquidity crisis" by accelerating transfers of business assets to a multigenerational trust under federal tax law provisions currently set to end this year.
A big problem family businesses face in handing off the operation to the next generation are substantial estate and transfer taxes due on transfer, particularly for highly successful ventures. As noted in previous coverage on succession tax law changes [see "Two-year window in estate-tax increase good time to plan," Sept. 19, 2011], the extension of the $5 million exemption from estate, gift and generation-skipping transfer taxes -- $10 million for couples -- and lower estate-tax rate of 35 percent are set to expire Dec. 31, unless Congress extends it again.
In addition to estate-planning vehicles such as grantor retained annuity trusts, or GRATs, a type of irrevocable trust getting more interest among North Coast wine industry businesses these days, particularly with the higher exemptions through this year, is a defective grantor trust, according to Greg Scott, partner for PricewaterhouseCooper's Private Company Services practice and head of the firm's wine and vineyard practice.
"A lot of people in the wine and vineyard industry can do these defective trusts," Mr. Scott said. "The key issue is that if they do not start structuring and planning for it in the next few months, they can't do it, because appraisers in November likely will be too busy."
Also called an intentionally defective grantor trust or beneficiary defective inheritor's trust, this estate-planning tool is "defective" because it's an incomplete transfer. Income on assets transferred is still counted as the grantors' for income-tax purposes, but the value of the assets, which is frozen at the time of transfer, is not counted for estate-tax purposes.
For example, two parents transfer $100 million in assets to the defective trust then get a $90 million note from the trust at the applicable federal interest rate for 12 years and claim the $10 million estate-tax exemption. The parents would be able to receive "payments" from that note and remain in control of the business while the second generation could continue the business without the substantial succession tax bite upon the loss of the previous generation.
Turning the defective trust into a generation-skipping trust can wipe out two generations of estate taxes, Mr. Scott noted.
"It can completely eliminate the liquidity crisis faced," said Mr. Scott, who has created defective-trust models for more than two dozen winery and vineyard families in the past couple of years.
Lower valuations for wine industry businesses just after the recession brought many North Coast operations under the $100 million rule of thumb for defective trust gift-plus-debt structures, but those valuations are coming back up, Mr. Scott said.
He suggests North Coast wine-related businesses consider other tax considerations:
Break out the value of the American Viticultural Area, or appellation, from the land value for depreciation purposes. In October 2010, the IRS published guidance on land valuation attributable to the appellation, rather than counting it as part of land.
"The appellation can be valued, just as the winery brand name can be," Mr. Scott said.