Restricted Management Accounts: An Alternative to the Family Limited
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Often touted as an alternative to the family limited partnership (FLP),
the restricted management account (RMA) may gain popularity given the IRS’s
continued attack on the FLP.
What is an RMA?
“Due to the investor’s inability to control or
access the RMA assets, the value of the RMA may be discounted
for estate and gift tax purposes.”
An RMA is an investment account established under a written agreement
between an investor and an investment manager.1 Under the terms of the
agreement, the investor agrees to relinquish control of assets to an investment
manager for a specified term of years and grants the investment manager
the exclusive right to manage the account assets. During the term of the
agreement, the investor cannot make withdrawals from the account. The agreement
also limits transferability of the account to the investor’s family members.
Benefits of Using an RMA
Due to the investor’s inability to control or access the RMA assets,
the value of the RMA may be discounted for estate and gift tax purposes.
The more restrictive the agreement and the longer the agreement term,
the greater the valuation discounts. Preferably, the agreement should
provide that the investor may extend the term each year, for one or more
years. This provision ensures that the investor will not die shortly
before the expiration of the agreement’s term, thereby losing the
ability to take an estate tax valuation discount.2
In exchange for the investor’s loss of control over and access to the
RMA assets, RMAs provide a variety of benefits. The primary purpose of an
RMA is the improvement of the account’s long-term investment performance.
The fixed term of the RMA encourages the investment manager to focus on
long-term performance and should improve long-term returns. Investment managers,
assured that they will handle the account for at least a specified term
period, may be willing to reduce their fees. Moreover, RMAs do not require
partnership formalities and are less expensive than the FLP to implement.
These benefits are in addition to the potential valuation discount and they
provide a substantial business purpose for entering into an RMA arrangement.
Will the RMA Withstand IRS Scrutiny?
Although RMAs have several benefits, they remain largely untested. Neither
the IRS nor Congress has approved this strategy, and the IRS has not raised
a direct challenge on the issue. An IRS challenge would likely rely on the
same arguments used to challenge FLPs. However, the FLP and RMA differ significantly
and, as a result, the IRS’ common challenges to the FLP do not generally
apply to the RMA.
The IRS often relies on Internal Revenue Code Sections 2701-2704 (commonly
referred to as Chapter 14) to attack FLPs. Sections 2701, 2702 and 2704
apply to corporations and partnerships (Sections 2701 and 2704) and transfers
in trusts (Section 2703), and are therefore not applicable to RMAs. Section
2703, however, does apply to RMAs and could be the IRS’ primary weapon in
Section 2703(a) requires that restrictions on the right to use property
be disregarded for valuation purposes. Section 2703(b) provides an exception
to the general rule set forth in Section 2703(a). In order to qualify for
the exception, the RMA agreement must be:
- a bona-fide business arrangement,
- comprised of terms similar to arrangements entered into in an arm’s
length transaction, and
- the agreement must not be a “device” to transfer the RMA assets to
a member of the investor’s family for less than full and adequate consideration.
The RMA agreement must be able to sustain an IRS attack based on Section
2703. In contrast to the FLP, which is an intra-family transaction, RMA
arrangements are bona-fide business transactions entered into between an
investor and an unrelated third-party (i.e., an investment manager) in an
arm’s length transaction. However, the question is whether the RMA could
be characterized as a “device” created to transfer assets at less than full
and adequate consideration. In some rulings, the IRS has held that an arrangement
is a “device” if tax avoidance is the primary or sole reason for the arrangement.
Fortunately, there are significant non-tax benefits to the RMA. As a result,
the IRS should be less successful in challenging the RMA, making it an attractive
alternative to the FLP.
Although RMAs provide a variety of non-tax benefits, as well as the potential
for a valuation discount, they are not a one-size fits all solution to the
vulnerability of the FLP and many investors will be reluctant to relinquish
all control over their investments. However, for the investor who recognizes
that the RMA is similar to long-term investment vehicles such as hedge funds,
the RMA may prove to be a valuable strategy.
1 It is important to note that due to SEC regulations,
registered investment advisors cannot enter into an RMA arrangement because
their clients must be able to fire them at will. Therefore, an RMA must
be created with a non-registered investment advisor, bank or trust company,
which is not subject to this SEC rule.
2 However, this restriction may pose a problem
if the investor dies and the investor’s estate needs the inaccessible RMA
assets to pay his estate tax liability. For this reason, the investor should
review his potential estate tax liability and liquidity before creating
This alert was written by
Jonathan M. Forster and
Rebecca S. Manicone
in the Tysons Corner office. Please contact Mr. Forster or Ms. Manicone
at 703.749.1300 or your Greenberg Traurig liaison if you have any questions
regarding the subject matter of this Alert.
© 2005 Greenberg Traurig
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feel free to contact one of our attorneys.
This GT ALERT is issued for informational purposes only and is not intended
to be construed or used as general legal advice. Greenberg Traurig attorneys provide
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individual legal needs.