Differences Between a Family Limited Partnership vs. Trust

Family limited partnerships (FLPs) and trusts are both tools used in estate planning , but they serve different purposes and offer distinct advantages. An FLP is primarily designed to hold and manage family-owned assets while providing potential tax benefits and asset protection. It also enables parents to transfer wealth to their children while retaining some control over the assets. On the other hand, a trust is a legal arrangement where a trustee manages assets on behalf of beneficiaries, offering flexibility in how assets are distributed. Each of these estate planning tools offers unique advantages, so compare them closely before choosing one over the other.

There's a lot to consider when creating your estate plan. For professional help and tailored advice, consult a financial advisor .

How Does a Family Limited Partnership Work?

A family limited partnership (FLP) is a legal entity used in estate planning to manage, transfer and protect family assets. Family members can form an FLP, with one or more serving as general partners who control the management and decision-making of the partnership. Other family members act as limited partners with ownership interests but limited control.

This structure allows the general partners to retain control over the assets while gradually transferring ownership to the next generation, often in a tax-efficient way. The assets within an FLP can include real estate, investments or family businesses, making it a versatile tool for preserving and managing family wealth.

General vs. Limited Partners

The operation of an FLP revolves around the distinction between general and limited partners. General partners have full control over the daily operations and decision-making processes of the partnership. Limited partners, on the other hand, have a passive role, with their involvement largely restricted to their investment in the partnership.

This setup not only allows the senior generation to maintain control over the family assets but also provides a mechanism for teaching the younger generation about managing and preserving wealth. Because the limited partners' interests in the FLP can be transferred over time, this structure also offers a way to minimize estate and gift taxes through the use of valuation discounts on the transferred interests.

How Does a Trust Work?

A trust is a legal structure in which an individual, referred to as the grantor, places assets under the control of a trustee, who is tasked with overseeing and administering those assets for the benefit of designated beneficiaries. The trustee holds the legal title to the trust assets but must manage them according to the terms set forth in the trust agreement. Trusts are often used in estate planning to control how assets are distributed after the grantor’s death. They offer a way to avoid probate, reduce estate taxes and provide for beneficiaries in a structured manner.

Revocable vs. Irrevocable Trusts

Trusts can be either revocable or irrevocable.

A revocable trust , also known as a living trust, allows the grantor to retain control over the trust and its assets during their lifetime, with the ability to alter or dissolve the trust if circumstances change. When the grantor dies, the trust becomes irrevocable, and the trustee is responsible for managing and distributing the assets according to the grantor’s wishes.

An irrevocable trust , on the other hand, cannot be modified or revoked once it's established, which can offer additional tax benefits and asset protection.

Role of the Trustee

The operation of a trust involves the trustee managing the assets for the benefit of the beneficiaries , who can be individuals, charities or other entities. The trustee must follow the specific instructions laid out in the trust document, which can include when and how the assets should be distributed, conditions for beneficiaries to receive their inheritance and how the assets should be invested. This level of control allows the grantor to make sure their assets are used in a way that aligns with their wishes.

Family Limited Partnership vs. Trust: Key Differences

Understanding the distinctions between them can help you determine which option is best suited for your family’s financial goals and estate planning needs. Here are some of the key differences between FLPs and trusts:

• Ownership structure : FLPs involve partners, where general partners manage the assets and limited partners have ownership interest without control. Trusts, on the other hand, are managed by a trustee on behalf of beneficiaries.
• Control : In an FLP, general partners retain control over the assets, making key decisions. With a trust, the trustee holds control and manages assets according to the trust’s terms.
• Tax benefits : Both FLPs and trusts offer tax advantages, but FLPs may provide more opportunities for income and estate tax planning, particularly in gifting shares to heirs at discounted values.
• Asset protection : Trusts often offer stronger asset protection by placing assets beyond the reach of creditors. FLPs offer some protection, but general partners' assets may be exposed to liability.
• Estate planning flexibility : Trusts are generally more flexible for estate planning, allowing detailed distribution plans, whereas FLPs focus more on asset management and gradual wealth transfer.

How to Choose Between a Family Limited Partnership and a Trust

Choosing between an FLP and a trust depends on your specific goals for asset management, control and tax planning.

Families who want to maintain control over their assets while gradually transferring ownership to the next generation may prefer an FLP. This structure allows general partners to manage the assets and make changes to the agreement.  FLPs are particularly beneficial for families with significant assets like real estate or family businesses, as they can offer protection from creditors and facilitate wealth transfer with reduced gift and estate taxes.

On the other hand, a trust is ideal for those who prioritize privacy, control over asset distribution and avoiding probate. You can tailor a trust to meet specific needs, whether it's providing for minor children, supporting a charitable cause or ensuring a loved one's financial security.

Trusts offer more flexibility in terms of how and when assets are distributed, and they can be structured to minimize estate taxes . Trusts are also a key tool for maintaining control over how your assets are used after your death, making them a potentially good choice for those who want to make sure their wealth is managed according to their wishes.

Bottom Line

Both family limited partnerships and trusts serve valuable roles in estate planning, but they cater to different needs. FLPs are ideal for families looking to maintain control over their assets while gradually transferring wealth to the next generation. Trusts, on the other hand, provide more flexibility in asset distribution, privacy and the ability to avoid probate. Ultimately, deciding between an FLP and a trust should be based on your family's unique circumstances and goals.

Estate Planning Tips

• A charitable remainder trust allows you to donate assets to a charitable organization while still receiving income from those assets during your lifetime. You get an immediate tax deduction for the donation, and upon your passing, the remainder of the trust is given to the charity. CRTs can be an effective way to reduce your estate size, lower capital gains taxes and leave a legacy with charitable giving.
• Estate planning can be complicated and mistakes made during this process can have significant consequences down the road. A financial advisor with estate planning expertise can help you decide how to structure your estate and plan for future generations. Finding a financial advisor doesn't have to be hard. SmartAsset's free tool matches you with up to three vetted financial advisors who serve your area, and you can have a free introductory call with your advisor matches to decide which one you feel is right for you. If you're ready to find an advisor who can help you achieve your financial goals, get started now .

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