Illiquid Assets – Donating and Appraising Promissory Notes, A Tax-Effi…

Get a Tax Deduction for Donating a Non-Cash Asset-Promissory observe Donations

Illiquid Financial Asset

A financial asset that is difficult to sell because of its expense, without of interested buyers, or some other reason is called “illiquid”. Examples of illiquid assets include: Restricted and private stock, LLC and limited partnership interests, deeds and mortgages, promissory notes, mineral rights including oil and gas partnerships, royalties, existing trusts, Insurance policies, and real estate.

Illiquid assets have value and, in many situations, very high value, but are difficult to price and to sell.

The absence of liquidity lowers the value of the asset by the amount of an illiquidity discount. All other things being equal, the more illiquid the asset is, the less value it has. Measuring this discount and applying it in appraisal valuations of illiquid assets has always been a challenge.

A Tax-Efficient Way to Make a Charitable Difference

Many charities welcome contributions of illiquid assets. For the donor it may be an effective and tax-efficient method of giving. The donor is entitled to claim a tax deduction of the fair market value– not just the original cost basis. This tax treatment offers meaningful benefits at the federal level and frequently at the state and local levels in addition.

Donated character-meaningful Considerations

Donors should acquire a qualified independent appraisal prior to making a contribution. The IRS requires a donor to acquire a qualified appraisal for illiquid assets no earlier than 60 days before the date of the gift and no later than the due date. It is the Donor’s responsibility to acquire the appraisals, file appropriate tax returns, and defend against any challenges to claims of tax benefits.

Tax consequences are important. The donor should consult a specialized tax advisor. The tax benefits of gifting the uncommon (illiquid) may be substantial – and could include deducting the complete fair market value of the assets, avoiding all capital gains tax, and the ability to carry forward deductions for six years. But, the devil is in the details; it must be done correctly, according to IRS rules.

Establishing “Fair Market Value” for a Promissory observe

“Fair Market Value” is the price at which the character would change hands between a willing buyer and a willing seller, neither being under any compulsion to buy or to sell and both having reasonable knowledge of applicable facts. For liquid assets trading in active markets, valuations must mirror observable price quotes, recent transactions, or dominant issue prices for identical assets.

For illiquid assets, if actual prices cannot be established due to poor liquidity and without of trading activity, an different approach is needed. An appraisal from a qualified appraiser should mirror “Fair Market Values” that approximate actual values from sales in a hypothetical, orderly transaction.

The appraiser must use experienced judgment; that is the meaningful to valuing illiquid assets. There is no mathematical formula, rule-of-thumb calculation, or textbook course of action; it is a “Judgment course of action”. It requires a sound understanding of the promissory observe and its possible buyers.

Appraising the asset requires deciding the appropriate provide rate of return applicable to the observe being appraised. This decision is based on its individual, rare, risk/return profile. Benchmark provide rates used for comparison should have a close relationship to current and/or historical yields for comparable assets. This method the valuation experts must have skill and understanding across several disciplines, including trading, quantitative research, credit examination, and structured finance.

Conclusion

Donating an illiquid asset, such as a private promissory observe, can be a tax efficient plan.

The tax deductions for donating a non-cash asset, such as a promissory observe, can be very valuable. The devil is in the details; it must be done correctly, according to IRS rules.

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