In terms of a business transaction, such as an asset sale, stock sale or otherwise, how would you define fair market value and why do we care? One could define fair market value as what a knowledgeable and willing buyer under no compulsion to buy would pay and what a knowledgeable and willing seller under no compulsion to sell would sell an item for in an arm’s length transaction.
Ok, so in short, fair market value is what someone is willing to pay and what someone is willing to sell an item for, but what is an arm’s length transaction? Arm’s length is referring to the relationship between the parties. When related parties, such as father and son, mother and daughter, grandfather and grandson etc. enter into a transaction, such transaction may not be considered arm’s length because of your relationship. The idea or thinking is that you would be more willing or likely to give a family member a “deal” on the purchase or sale of an item. The Internal Revenue Service takes into account and considers related parties in regards to the tax treatment of certain items and transactions in the Internal Revenue Code.
Why do we care about fair market value? You may care for many reasons, and a few will be discussed below. If fair market value is not provided or exchanged in a transaction, the transaction could be considered part sale and part gift. This part sale and part gift issue brings in too many issues to discuss within this article, but in short implicates gift matters, gift exclusion issues etc. In terms of inheriting an asset, when you inherit property, you take such property with a stepped up basis, meaning your basis is the fair market value of the property on the decedent’s date of death (or there could be an alternative valuation date). Thus, the current fair market value of an item becomes very important as it can dictate your basis in an asset and thus the gain whenever the asset is sold, transferred or disposed of
The video below has been prepared by a tax attorney and business attorney at The McGuire Law Firm. The McGuire Law Firm hopes that you have found this information useful. If you have questions relating to the tax treatment of an individual transaction or a business transaction, you can schedule a free consultation with an attorney by contacting the firm.