Many families overlook this distinction. An FLP may hold $10 million in assets, yet a 5% limited partner interest does not automatically carry a $500,000 value. Discounts for lack of control and lack of marketability apply because a restricted interest without control gives a buyer less value than a proportional slice of the balance sheet.
This article explains how FLPs take shape, how appraisers calculate discounts, what appraisers examine, why the IRS scrutinizes these transactions, and when to bring in an independent valuation. Nothing here replaces advice from your attorney or tax professional. Every FLP situation depends on its facts, the partnership agreement, and current law.
Key Takeaways
- Lack of control and lack of marketability are the two discounts most commonly applied to FLP interests.
- Discount size depends on the specific interest, agreement terms, asset mix, distribution history, and valuation date.
- Reduce IRS challenge risk with a legitimate non-tax purpose and proper partnership operation.
- Back every gift, estate, or trust filing value with an independent appraisal.
What Is a Family Limited Partnership?
A family limited partnership means a partnership that related family members own, set up with a general partner and one or more limited partners. The general partner controls investment decisions, distributions, and day-to-day management. Limited partners hold an economic interest but typically have no vote on operations.
A typical setup starts when a senior family member contributes assets, such as real estate, a stake in an operating business, or a securities portfolio, in exchange for both general and limited partnership interests. Over time, that person may gift or sell limited partnership interests to children, grandchildren, or trusts.
Whether this structure fits a given family's goals raises a legal question. An attorney should make that determination before the family signs anything.
Families set up FLPs for a range of reasons, such as:
- Centralizing management of scattered or complex assets
- Building a succession plan for a family business
- Keeping assets within the family across generations
- Supporting creditor-protection planning
- Transferring fractional interests without dividing the underlying property
An FLP on paper guarantees none of these outcomes.
Why the Partnership Agreement Drives Value
Most of the valuation work starts with the agreement itself. Voting rights, distribution authority, liquidation rights, transfer restrictions, and the rules for new partner admission all shape the value of a limited partnership interest.
Two FLPs that hold identical assets can produce very different valuations when one agreement gives limited partners more say than the other.
Estate planning explains why families use FLPs, but the legal structure, tax treatment, and valuation form a separate body of work that requires coordination among an attorney, a tax adviser, and an independent appraiser.
How Valuation Discounts for FLPs Work
Fair market value rests on a willing-buyer, willing-seller framework, which asks what a hypothetical buyer would pay a hypothetical seller when neither faces pressure and both know the relevant facts.
Revenue Ruling 59-60 established this standard decades ago and rejected any single formula for valuation, and that position still holds today. A limited partner's pro-rata share of the FLP's net asset value gives appraisers a first step, not the answer.
Discount for Lack of Control (DLOC)
A limited partner usually cannot direct how the partnership invests its assets, approve or block distributions, force a liquidation, or replace the general partner. A buyer cares about those absent rights. Appraisers review the partnership agreement and applicable state law to determine exactly which control rights the interest lacks.
Discount for Lack of Marketability (DLOM)
Private FLP interests do not trade on an exchange. Transfer restrictions, consent requirements that the agreement imposes, a thin pool of potential buyers, and no set timeline for an exit from the investment all push down what a buyer would pay today for the right to cash out later.
DLOC and DLOM Are Not the Same Discount
These two discounts address different problems, since one concerns control and the other concerns liquidity. Appraisers should not simply add them together. The IRS Discount for Lack of Marketability Job Aid notes that DLOM typically applies after a control-related discount, and each discount should rest on evidence of its own rather than a mechanical combination.
Consider a simplified illustration in which a pro-rata share of net asset value equals $100,000:
- Apply a 20% DLOC first: $100,000 × 0.80 = $80,000
- Apply a 15% DLOM to the remainder: $80,000 × 0.85 = $68,000
Together the two discounts reduce value by 32%, not 35%, because the second discount applies to what remains after the first, not to the original number.
What Moves the Discount Up or Down
Several factors influence the size of a supportable discount:
- Type and diversification of underlying assets
- Distribution history and expected future cash flow
- Debt carried by the partnership
- Transfer restrictions and consent requirements in the agreement
- Partnership duration and expected holding period
- Valuation date and prevailing market conditions
- Applicable state law
- Comparable market evidence
Illustrative discount ranges appear in various studies and court cases, but a single percentage never works as a universal rule. Every FLP interest needs its own analysis tied to its own facts.
How an FLP Interest Is Appraised
A defensible appraisal follows a consistent workflow:
- Define the assignment — identify the specific interest, the valuation date, and the purpose of the report.
- Review governing documents — the partnership agreement, amendments, and any side letters.
- Value underlying assets and liabilities — often requiring separate appraisals of real estate, operating businesses, or securities held inside the FLP.
- Select appropriate methods — asset-based, income, market, or some combination.
- Apply supported adjustments — DLOC, DLOM, or other factors tied to the specific facts.
- Reconcile the conclusion — bringing the analysis together into a single supportable value.
The Three Valuation Approaches
Asset-based approach. Appraisers commonly use it when the FLP mainly holds real estate, marketable securities, or other investment assets. The assets inside the FLP often need their own appraisals before anyone can value the partnership interest that rests on top of them.
Income approach. This approach applies when the partnership has a meaningful distribution history or predictable cash flow. The appraiser looks at what a limited partner can realistically expect to receive and adjusts for the risk that distributions do not materialize on schedule.
Market approach. This approach uses comparable interests or market data where available, but public or unrelated comparables need adjustment for differences in rights, asset mix, size, risk, liquidity, and transfer restrictions. A comparable that looks similar on the surface can differ sharply once you dig into the documents that control it.
What an Appraiser Will Ask For
Expect a document request that includes:
- Partnership agreement and any amendments
- Certificate or formation documents
- Asset schedules and underlying real estate or business appraisals
- Financial statements and tax returns
- Contribution and transfer records
- Distribution history
- Debt information
- Partner ownership records and meeting minutes
Business Valuation Writers prepares formal valuations for estate planning, gift and estate tax reporting, trusts, judicial matters, and closely held business interests. Owner and valuator Jack Schroeder, a Certified Valuation Analyst (CVA) and Mergers and Acquisitions Master Intermediary (M&AMI), has prepared more than 80 business valuations, including controlling and minority interests.
That experience matters when an FLP holds an operating business rather than a securities account. The company itself needs its own credible valuation before anyone can value the partnership interest.
None of this constitutes legal or tax advice, and it covers only the appraisal piece of a larger plan.
IRS Scrutiny and How to Support a Defensible Discount
The IRS does not object to FLPs as a concept. Its attention goes to whether the entity had a legitimate, substantial non-tax purpose, had proper capitalization, and operated the way the partnership documents describe. Discounts draw the hardest challenges when the paperwork says one thing and behavior says another.
Risk Factors Worth Flagging Early
- Transfers made shortly before death
- Retained enjoyment or control over contributed assets
- Insufficient liquidity left outside the FLP for the transferor's own needs
- Personal use of partnership assets by the transferor
- Commingling of partnership and personal funds
- Undocumented or inconsistent distributions
- Failure to follow partnership formalities in practice
Treasury regulations add another layer. Under Treas. Reg. § 25.2704-2, valuation disregards certain liquidation restrictions when family members control the entity and can remove the restriction, or when the restriction will simply lapse.
Valuation then treats the interest as though the restriction never existed, which can wipe out a chunk of the expected discount.
Court decisions reinforce the same theme:
- Kimbell v. United States upheld an FLP built around genuine investment and administrative purposes
- Strangi v. Commissioner went the other way: the decedent kept using contributed assets and had partnership funds cover personal expenses, so full asset value returned to the estate
- Estate of Powell treated a retained right to dissolve the partnership (with other partners) as pulling value back into the estate
If day-to-day conduct contradicts the agreement, the claimed discount will likely face a direct challenge.
Building a Defensible File
A qualified appraisal for a gift or estate tax filing should identify the specific interest, valuation date, assumptions, methods used, discounts applied, and the evidence behind them, not just a bottom-line percentage. Beyond the appraisal itself, a solid compliance checklist includes:
- Involving estate-planning counsel and a tax adviser early in the process
- Documenting the non-tax purpose in writing, before or at formation
- Executing and funding the agreement correctly and on time
- Keeping separate records and bank accounts for the partnership
- Following distribution and governance provisions as written
- Preserving contemporaneous records of decisions and transactions
- Obtaining updated valuations whenever additional transfers occur or the valuation date changes materially
Practical Planning: When to Obtain an FLP Valuation
A fresh valuation matters most whenever a specific transfer, filing, or dispute ties to a specific date. Common triggers include:
- Gifts of limited partnership interests to family members or trusts
- Funding a trust with an FLP interest
- Estate administration after a partner's death
- Buy-sell agreement planning
- Succession planning for a family business held inside the FLP
- Partner disputes or judicial proceedings
- Supporting a tax return position on audit
An old appraisal, or a discount borrowed from an unrelated prior transaction, does not hold up well under scrutiny. The valuation needs to reflect the actual transfer date and the precise rights that pass at that moment.
Partnership agreements, market conditions, and asset mix can all shift from year to year, so the analysis has to match the specific valuation date.
CPAs, estate and trust attorneys, executors, trustees, and closely held business owners can work with Business Valuation Writers for a fast, affordable, and defensible FLP valuation. When the appraiser, attorney, and tax professional coordinate from the start, the file tends to come out cleaner with fewer surprises later.
No valuation firm can promise a particular tax outcome, and Business Valuation Writers does not make that promise either. Business Valuation Writers aims for a well-supported number that holds up to review.
Frequently Asked Questions
What are valuation discounts for family limited partnerships?
Valuation discounts adjust the proportional share of the FLP's net asset value when the transferred interest lacks control, marketability, or both. The facts and an independent valuation must support the specific amount, not a standard percentage.
What are the advantages of a family limited partnership?
Potential benefits include centralized management, structured family wealth transfer, succession planning, and built-in transfer restrictions. Whether those benefits actually materialize, and what tax result follows, depends on the legal and tax structure the family puts in place.
What is the difference between a lack-of-control discount and a lack-of-marketability discount?
A lack-of-control discount reflects reduced decision-making power, such as the inability to force distributions or liquidation. A lack-of-marketability discount reflects how hard the interest proves to convert into cash. They address separate valuation issues, and appraisers apply them one after the other rather than add them together.
How are family limited partnership interests valued?
Appraisers examine the partnership agreement, assets, liabilities, cash flows, ownership rights, and transfer restrictions as of the valuation date, then apply an asset-based, income, or market approach, or a combination of them, to reach a supportable conclusion.
Can the IRS challenge valuation discounts for an FLP?
Yes, the IRS may question the partnership's purpose, how the partnership operated, whether the transferor retained control or benefits, the documentation on file, and the valuation methods used. Any specific situation calls for current legal and tax advice.
What documents are needed to value a family limited partnership interest?
Typical documents include the partnership agreement, ownership and transfer records, asset appraisals, and financial statements. Gather tax returns, contribution and distribution history, debt details, and meeting minutes as well.
