RESTRICTED MGT ACCTS

RESTRICTIVE MANAGEMENT ACCOUNTS
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By Nathaniel E. Clement
<?xml:namespace prefix = o /><o:p>&nbsp;</o:p> A Restricted Management Account (RMA) is an account established with an investment manager under a contract that establishes restrictions designed to allow the manager to improve investment performance. 
Discounts in the agreement can support substantial valuation discounts. It should be less vulnerable to attack than limited partnerships and LLCs.&nbsp; <o:p></o:p> 
The RMA is simple to create and administer, which is one of its great attractions. <o:p></o:p>
The account is funded with securities, even an IRA. A management agreement is entered into with a corporate bank or trust company. Registered investment advisors may not enter into RMAs because the SEC states that a registered investment advisor may not restrict an investors ability to withdraw funds from his or her account. However, non-registered investment advisors (banks and trust companies) may enter into such arrangements with advisors. Banks and trust companies are not subject to this SEC ruling, subject to the bank or trust companys own counsel approval. <o:p></o:p>
Here are the main features of RMAs:
&#9688;&nbsp; A stated term 5 years minimum. It must be long enough to allow the investment manager to manage the funds for long-term performance, rather than being forced to maintain short-term performance in order to retain the client. 
&#9688;&nbsp; At the end of each year of the term, the agreement can be extended for 5 more years, so that at any one time, there are at least 4 years.&#9688;&nbsp; The agreement can be terminated with the consent of both parties. Absent consent from the manager, the investor &nbsp;&nbsp;&nbsp; &nbsp;&nbsp;&nbsp; cannot withdraw money from the account. The account can be written to allow for certain withdrawals (this will reduce &nbsp;&nbsp;&nbsp; valuation discounts). 
<o:p>&nbsp;</o:p>&#9688;&nbsp; The agreement may state that transfers of some or all of the account may be accomplished to members of the investors family or to trusts for their benefit. Restrictions on transfer enhance the managers ability to manage for long-term performance.
<o:p>&nbsp;</o:p>&#9688;&nbsp; The agreement can specify that all or a specified portion of the income of the account (including capital gain) can be distributed to the investor. This could be for living expenses, income taxes, gifting or other. (This type of provision will adversely affect valuation discounts.).
 T<o:p>he&nbsp;</o:p> result is the manager will be able to obtain better investment performance. 
Management fees should be reduced in return for the manager having a guaranteed fee over a longer term.&nbsp; <o:p></o:p> 
No partnership or LLC formalities are required with an RMA.<o:p> </o:p>
Roy Adams, attorney, New York,&nbsp; believes an RMA is less susceptible to attack by the IRS than would be a limited partnership or LLC created to own marketable securities.<o:p> </o:p>
EXAMPLE provided by Roy Adams: Sam Miller owns $10 million in securities (marketable). These are currently managed by Management Bank. In order to achieve greater long-term performance, he and Management Bank enter an agreement that gives Management the exclusive right to manage the account for 5 years. During this time, Mr. Miller may transfer his RMA (or a portion) to his wife, descendants in trust without Managements consent. Transfers to 3rd parties require the consent of Management.<o:p> </o:p>
A year later, Mr. Miller decides to make a gift to a trust established for his descendants. He directs Management to divide the account into two accounts: (i) a $1.5 million RMA and (ii) a $8.5 million RMA. The RMA agreement applies to both accounts. Mr. Miller then gifts the $1.5 million account to the trust. He gets an appraisal for that portion of the RMA, which indicates a 33.33% discount in valuation. Thus, the gift of $1.5 million is valued at $1.0 million for gift tax purposes.<o:p> </o:p>
During the next 4 years, the transferred RMA grows at 14% per year. The RMA ends at that time and the agreement relating to this portion of the account terminates. That portion of the account is now worth $2.53 million.<o:p> </o:p>
As to the other portion of the RMA, Mr. Miller extends the agreement at the end of each year (year 1, year 2, year 3, etc), thus always maintaining an unexpired term of 4 to 5 years. Mr. Miller dies at the end of 10 years. At this time the securities are worth $31.5 million (they grew at the amazing rate of 14% per year also). The securities are still subject to 4 more years of the RMA. For estate tax purposes, the account is valued at $21 million ($33.5 million less 33.33%). This discount saves $5 million in estate taxes (assuming a 48% tax rate).
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Copyright, Nathaniel E. Clement, 
J.D.,&nbsp; 2007
1709 Legion Rd., Ste 214, Chapel Hill, NC 27517
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