What If I Sell A Stock On The Ex-Dividend Date Illiquid Assets – Donating and Appraising Promissory Notes, A Tax-Efficient Plan

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Illiquid Assets – Donating and Appraising Promissory Notes, A Tax-Efficient Plan

Get a tax deduction for a non-cash donation – promissory notes

Illiquid financial asset

A financial asset that is difficult to sell because of its value, lack of interested buyers, or other reasons is called “illiquid.” Examples of illiquid assets include: restricted and private stocks, shares of LLCs and limited liability companies, notes and mortgages, promissory notes, mineral rights, including oil and gas companies, royalties, existing trusts, insurance policies, and real estate.

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

Lack of liquidity reduces the value of the asset by the amount of the illiquidity discount. Other things being equal, the more illiquid an asset is, the lower its value. Measuring this discount and applying it to the valuation of illiquid assets has always been a challenge.

A tax-efficient way to make a charitable difference

Many charities welcome contributions of non-liquid assets. For the donor, this can be an efficient and tax-efficient way to give. The donor has the right to claim a tax deduction on the fair market value, not just the original cost. This tax treatment provides significant benefits at the federal level, and often at the state and local levels as well.

Donated property – key considerations

Donors must obtain a qualified independent appraisal before making a contribution. The IRS requires the donor to obtain a qualified appraisal of non-liquid assets no earlier than 60 days before the date of the gift and no later than the term of the gift. It is the donor’s responsibility to obtain an appraisal, file appropriate tax returns and defend against any tax benefit claims.

The tax implications are important. The donor should consult a professional tax advisor. The tax advantages of giving an extraordinary (illiquid) gift can be significant – and can include deducting the full fair market value of assets, avoiding all capital gains taxes and being able to carry forward deductions for up to six years. But the devil is in the details; it must be done correctly, according to IRS regulations.

Establishing “fair market value” for a promissory note

“Fair market value” is the price at which the property would change hands between a willing buyer and a willing seller, neither of whom is under any compulsion to buy or sell and both of whom have reasonable knowledge of the relevant facts. For liquid assets trading in active markets, valuations must reflect observed price quotes, recent transactions or IPO prices of identical assets.

For illiquid assets, where actual prices cannot be established due to poor liquidity and lack of trading activity, an alternative approach is required. An appraisal from a qualified appraiser should reflect “Fair Market Values” that approximate actual sales values ​​in a hypothetical orderly transaction.

The appraiser must use experienced judgment; this is the key to valuing illiquid assets. There is no mathematical formula, empirical calculation, or textbook process; this is “The Trial”. This requires a clear understanding of the promissory note and its potential buyers.

Valuation of an asset requires determination of the appropriate rate of return applicable to the note being valued. This decision is based on his individual, unique risk/return profile. Benchmark rates of return used for comparison should be closely related to current and/or historical returns for comparable assets. This means that valuation experts must have experience and understanding of multiple disciplines, including trading, quantitative research, credit analysis and structured finance.

Conclusion

Donating illiquid assets, such as a private promissory note, can be a tax-efficient plan.

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

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