This article is an excerpt from Charitable Gifts of Noncash Assets, a comprehensive guide to illiquid giving by Bryan Clontz, ed. Ryan Raffin. Published by the American College of Financial Services for the Chartered Advisor in Philanthropy Program (CAP), with generous funding from Leon L. Levy. For a free digital copy, click here, and to order a bound copy from Amazon, click here.
Below are quick take-aways on gifts of pass-through entities. Pass-through entity topics are based on Dennis Walsh’s “Navigating the Charitable Transfer of a Partnership Interest: A Primer,” and Jane Wilton and Nicole Spooner’s “Considerations in Making Charitable Gifts of Interests in Pass-Through Entities.” For quick take-aways on gifts of pass-through entities, see Pass-Through Entities Quick Take-Aways. For a review based on the articles, see Pass-Through Entities Intermediate. For an in-depth examination adapted and excerpted from the articles, see Pass-Through Entities Advanced. For further details, see Pass-Through Entities Additional Resources.
Interests in pass-through entities can make for appealing donations. They can be both strong income producing assets for charities, and a tax bargain for donors. These entities are often structured as either partnerships or limited liability companies.
Below is an overview of the advantages, disadvantages, considerations, and essential questions when considering accepting gifts of pass-through interests. Also highlighted are unique aspects of both partnerships and LLCs.
LLC Features to Note:• Limited exposure to potential liability to third parties in most cases • LLC operating agreements are more likely to require capital contributions from members • In some cases, LLCs may elect to be taxed as a corporation Partnership Features to Note:• Interests often come with a share of the partnership’s liabilities • Partnerships may not have a formal partnership agreement • State partnership law is uniform, unlike LLCs |
• Calculation of different elements of the interest can be quite complex (including basis, hot assets, passive losses, and more), meaning valuation is often complicated as well. This impacts the charitable transfer, reporting requirements, and the nonprofit’s eventual sale of the interest.
• The partnership or operating agreement can restrict transferability of the interest, which can also limit marketability of the interest when the charity decides to liquidate.
• Similarly, pass-through interests often have a limited market on sale— typically only the original donor, the entity itself, and other partners or members.
• Pass-through entities can generate unrelated business taxable income, either by virtue of its normal, active business income-generating activities or through debt-financed income.
• A gift of a pass-through entity with debt will trigger bargain sale rules.
• Gifts of unique pass-through entities or property, like carried interests, can be extremely complex and are sometimes subjected to legislative or tax changes.
• Some of these interests can include capital calls or other liability exposures (i.e., general partnership interests).