Building a successful business takes time, effort, and strategic planning. When it comes to protecting that business for the future, many owners overlook how the actual valuation of those business interests impacts estate planning and the continuation of their legacy. If you plan to transfer business interests—whether to family members, trusts, or other individuals or entities—understanding how your business is valued will change your approach to estate and gift tax liability.
Two key valuation discounts, the Discount for Lack of Marketability (DLOM) and the Discount for Lack of Control (DLOC), can help business owners strategically transfer wealth while minimizing tax liabilities. Knowing how these discounts operate under the rule of law allows you to make informed decisions about your estate and succession plan as well as your overall tax strategy.
What is Discount for Lack of Marketability?
DLOM applies when an ownership interest in a business cannot be easily sold or converted to cash. Unlike publicly traded stocks, privately held businesses lack an active market, making them less attractive to potential buyers. Because of this limited liquidity, the IRS allows for a reduction in the valuation of these interests when calculating estate and gift taxes in certain situations (with limitations). Business owners who plan to transfer interests in a privately held company can take advantage of DLOM to reduce the taxable value of their business assets, potentially saving significant amounts in estate taxes.
What is Discount for Lack of Control?
DLOC reflects the reduced value of an ownership interest that does not include controlling authority over a business. Minority shareholders (49% ownership or less), for example, may not have the ability to influence key decisions such as distributions, company sales, or leadership changes. This lack of control makes the ownership interest less valuable compared to a controlling stake, and the IRS recognizes this diminished value through a valuation discount. Business owners structuring ownership transfers within family partnerships, limited liability companies, or trusts often use DLOC to further reduce estate tax liability and manage succession planning efficiently.
How Does That Impact Your Estate Plan?
Properly applying these valuation discounts can lead to substantial tax savings when transferring business interests to heirs or trusts. Without these adjustments, business owners may face inflated estate tax obligations that could force heirs to sell company assets to cover tax liabilities.
Parents can gift minority interests in companies to their children in a way that effectively addresses these discounts. For example, if you own a $1 million company, 10% of that is valued at $100,000. However, due to these discounts, that 10% interest might be appraised at only $70,000 for tax purposes. This strategy allows business owners to transfer wealth efficiently while minimizing tax burdens over time.
Additionally, utilizing DLOM and DLOC can provide a strategic advantage when structuring family business succession plans. Working with an experienced California estate planning attorney helps ensure compliance with IRS regulations while maximizing available benefits and discounts.
Effective Estate Planning Solutions for California Business Owners
Business succession and estate planning require a thorough and personalized approach to valuation and tax efficiency. Understanding how DLOM and DLOC impact your estate plan can lead to significant savings and help protect your company’s future. Ensuring that your plan is structured correctly is essential to maintaining control and preserving wealth across generations. Contact Dahl Law Group today at our offices in Sacramento and San Diego to discuss estate planning solutions tailored to your business and financial goals.
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