Alternate uses for dealership appraisals

NOTE: The following article is from the collection of articles in our Automobile Dealership Buy/Sell Newsletters. The newsletter deals with the complex area of buying and selling automobile dealerships. Some of the material may not be up to date because of changes in the law from the date shown at the end of the article. This article is not to be taken as legal, accounting, tax, or other advice. You should consult your own professionals for such advice and for any updating of the information provided.

The most common reason that most dealers think about getting dealership appraisals is for buy-sell agreements. There are, in fact, many important additional uses for dealership appraisals.

ESTATE PLANNING

Dealerships are usually the largest asset in a dealer’s estate and consequently, an asset that should be seriously considered for transfer to future generations. There are many sophisticated mechanisms that can be used for the transfer, however, the key building block is to have a formal appraisal that has been prepared to withstand the close scrutiny of the Internal Revenue Service. Once that is in hand, estate planning through the use of gifts, family limited partnerships using the stock in the dealership corporation, and GRATS should be considered. Family limited partnerships are used to transfer part of the ownership (usually stock) in the family owned dealership to children or grandchildren of the dealer at substantially discounted values and thereby potentially save a great deal of estate tax. The dealer would form a limited partnership with himself and one other person (usually his spouse). Initially, the dealer is both a general partner and a limited partner. The partnership is funded with some, but usually not all, of the stock in the dealership. The dealer then gifts a limited partnership interest to his children using a discounted value for the limited partnership interest, which can be as much as 40 to 50 percent. These discounts arise because of lack of marketability of a limited partnership interest and lack of control of the underlying asset (the stock in the corporation) by the limited partner. These transactions work best when the dealer and his spouse have their entire $600,000 exclusion for gift tax purposes remaining to be used.

The following example will illustrate the potential tax savings:

The use of the family limited partnership still leaves a dealer with total control of the stock transferred into the family limited partnership by virtue of the fact that the dealer is the general partner. In addition, the dealer has saved as much as $400,000 on the transfer and any appreciation in the value of the stock which is held by the limited partners from the transfer forward should be free of an estate tax upon the dealers ultimate death.

Another estate planning technique that works very well for dealers who are certain that they want to transfer the dealership to their heirs is a Grantor Retained Annuity Trust (GRAT). The dealer would transfer stock of his corporation into the GRAT and retain a fixed annuity payment each year for the term of the GRAT. The dealer need not transfer 100% of the stock into the GRAT and, in fact, usually would want to retain an interest in the dealership so that he can remain the “dealer” to satisfy the factory. When the GRAT terminates, the stock in the dealership that has been transferred into the GRAT is distributed to the beneficiaries of the GRAT (usually the children of the dealer). The GRAT would need to generate enough income to pay the dealer the annuity payments specified under the terms of the GRAT. The income is usually generated by dividends from the corporation to its shareholders including the GRAT.

The transfer of stock into the GRAT is a gift taxable transaction but, once again, the amount of the gift can be substantially reduced based upon the term that the GRAT will be in existence and the amount of the annuity that the dealer retains. The value of the gift is determined by applying an Internal Revenue Service interest rate and actuarial tables to the value of the stock being transferred to the GRAT. For estate tax purposes, the GRAT will not be included in the dealer’s estate so long as the dealer lives beyond the term of the GRAT.

The following example will illustrate the potential tax savings of a GRAT.

Business, economic and tax considerations all have an important place in estate planning. Competent, professional advice should be obtained before embarking on sophisticated estate planning techniques such as those identified above.

PROJECT 2000

Project 2000 is well under way with the factories making aggressive moves at dealerships. Although your dealership may not currently be on the “hit list,” it is important that dealers start now to establish the value of their dealership with an independent appraisal. The preparation of an appraisal prior to finding your dealership on the “hit list” should make future negotiations with the factory go smoother and in the proper direction from the dealer’s standpoint.

LITIGATION MATTERS

There are many litigation matters which could come up where a proper independent appraisal of a dealership could prove very helpful to the dealer. These matters include divorce proceedings, disputes between shareholders, corporate liquidations or other forms of reorganization, and situations involving destruction of dealership property by fire or other forms of casualty losses.

A qualified dealership appraisal can be a significant negotiating tool to help dealers in many ways other than the traditional buy-sell. It is important to keep the need for a qualified appraisal in mind whenever situations such as those identified above arise.

This article was written in 1996.