“An overarching attack on discounts in family limited partnerships” is how attorney John Porter (Baker Botts) characterized the Treasury Department’s proposed regulations under Section 2704 in a recent Bloomberg BNA webinar. Will there be a challenge to the regs? “You betcha,” he says.

Unreal world: Porter and his co-presenter, attorney Stacy Eastland (Goldman Sachs), agree that in the real world owning a minority interest in a family limited partnership or an LLC more often than not is onerous and justifies the use of minority and lack of marketability discounts. Eastman goes as far as describing it as a “phantom asset” because the interest holder often can’t dispose of it. Discount abuses on the magnitude the IRS claims to need to rectify by way of the regulations don’t occur in real world, the speakers say.

Aspects of the regulations themselves are imaginary. Take, for example, the construct of a “put right,” that is, the ability of each member of the entity to force the company to buy back his or her interest for cash equal to a minimum value (a pro rata portion of the fair market value of the entire entity) within six months of exercising the right. No such right exists in the real world, both speakers emphasize.

Porter says the regulations are an overreach by the IRS because Congress did not intend the Chapter 14 valuation rules to target minority discounts and DLOMs; rather it sought to address artificial restrictions. As Porter sees it, the IRS is trying to apply a family attribution test.

Grounds for the challenge: Porter says that there are at least two grounds for challenging the proposed regs: (1) The regulations don’t align with the legislative grant of regulatory authority; and (2) they are inconsistent with applicable statutes and legislative history.

Right now there is uncertainty as to what might happen if the regulations became law. Take, for example, the new contemplated three-year rule under 2704(a), which would nullify discounts taken for certain transfers that occurred within three years of the transferor’s death. Would it apply to transfers that occurred prior to the regulations being finalized? “Unclear,” Porter says.

But both speakers also stressed that, even if the regulations became law, “the sky wouldn’t fall.” Good lawyers will come up with structural solutions to minimize the regulations’ negative effect.

Reminder: Valuators have an opportunity to learn more about these complex regulations in our September 29 webinar with Curtis Kimball (Willamette Management Associates): The IRS’ Proposed Section 2704 Regulations: The Impact on and the Future of Estate and Gift Valuation.