Tax vs Fair Market Value
A comprehensive guide for CPAs navigating the complex landscape of business valuations for tax purposes. Understand how valuation standards, discounts, and methodologies differ across estate, gift, income, and other tax scenarios.
Common Tax Valuation Purposes
Fair market value at date of death or alternate valuation date (6 months later). Critical for estate tax calculations and basis step-up.
IRC Section 2031, Reg. 20.2031-1
Fair market value on date of gift transfer. Often involves minority interests with significant discounts for lack of control and marketability.
IRC Section 2512, Reg. 25.2512-1
Various contexts: Section 409A deferred compensation, charitable deductions, bargain sales, and acquisition/disposition transactions.
IRC Sections 409A, 170, 83
Estate Tax Valuation Considerations
- • Valuation Date: Date of death or alternate valuation date
- • Discount Applications: Minority and marketability discounts often significant
- • Control Considerations: Actual ownership percentage and voting rights
- • Key Person Issues: Impact of decedent's death on business operations
- • Buy-Sell Agreements: May establish or limit valuation under Section 2703
IRS frequently challenges estate valuations on:
- • Excessive marketability discounts
- • Inappropriate minority discounts
- • Unrealistic growth assumptions
- • Inadequate comparable company analysis
- • Insufficient documentation of discounts
Estate of Jones (2020)
Court reduced marketability discount from 35% to 20% for family business due to strong financial performance.
Estate of Giustina (2019)
$100M+ case involving timber company; court accepted significant discounts for environmental restrictions.
Estate of Keller (2018)
Manufacturing company case where court accepted combined 45% discount for minority and marketability.
Gift Tax Valuation Strategies
Minority Interest Discounts
Typical ranges: 10-30% for family businesses
- • Lack of voting control
- • Cannot control distributions
- • Limited influence on operations
Marketability Discounts
Typical ranges: 15-40% for family businesses
- • No ready market for shares
- • Transfer restrictions
- • Limited financial information
Family Limited Partnerships
Transfer limited partnership interests at discounted values
- • Retain management control as GP
- • Gift LP interests to family
- • Combine minority and marketability discounts
- • Potential 30-50% total discounts
Grantor Retained Annuity Trusts
Transfer future appreciation at reduced gift values
- • Retain annuity payments
- • Gift remainder interest
- • Benefit from business growth
- • Lower Section 7520 rates improve results
Income Tax Valuation Applications
Deferred compensation plans must use reasonable valuation methods:
- • Independent appraisal safe harbor
- • Formula-based valuations acceptable in limited cases
- • 12-month valuation validity period
- • Penalties for non-compliance: 20% + interest
- • Special rules for start-up companies
Business interest donations require qualified appraisals:
- • Qualified appraisal required for >$5,000
- • Must be conducted by a qualified appraiser meeting IRS requirements under IRC §170(f)(11)
- • Appraisal must be contemporaneous
- • Form 8283 filing requirements
- • IRS may challenge excessive valuations
How Tax Purpose Affects Valuation Methods
| Tax Purpose | Primary Method | Key Considerations | Discount Approach |
|---|---|---|---|
| Estate Tax | Income/Market Approach | Fair market value at death date | Moderate to significant |
| Gift Tax | Income/Market Approach | Maximize discount potential | Maximized within supportable ranges |
| Section 409A | Market/Income Approach | Reasonable method standard | Conservative approach |
| Charitable | Market/Asset Approach | Avoid overvaluation penalties | Moderate discounts |
Best Practices for Tax Valuations
Understand the Tax Context
Different tax purposes require different valuation approaches and may result in different values for the same business.
Document Discount Support
Provide detailed analysis and market evidence supporting all valuation discounts, especially for gift and estate purposes.
Consider IRS Positions
Stay current on Tax Court cases and IRS positions on business valuation issues and discount applications.
Timing Considerations
Plan valuation timing strategically, especially for gift tax purposes where economic conditions can impact values.
Use Qualified Appraisers
Ensure appraisers meet IRS qualified appraiser requirements and hold recognized credentials (CVA, ASA, ABV, or CPA/ABV).
Multiple Valuation Methods
Apply multiple valuation approaches when appropriate to strengthen conclusions and demonstrate thoroughness to IRS.
Regular Updates
Update valuations regularly for ongoing compliance needs, especially Section 409A deferred compensation plans.
Penalty Avoidance
Be conservative with charitable contribution valuations to avoid 20% overvaluation penalties under Section 6662.
Need Expert Tax Valuation Support?
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