Inheritance tax is often misunderstood1 and causes fear in many more than the 5% of estates which currently pay it.
What might change? The Office of Tax Simplification and an All Party Parliamentary Group have made suggestions. Here are some possible changes, based on those and my own thoughts:
The rate: A reduction from 40% to 20% (if your IHT plan is to spend your money, that is the most fun way to do so – and you’ll probably suffer 20% VAT on most items. So a similar 20% tax on not spending has some logic.)
Exemptions and zero rates With a lowered rate, widening the base of those who pay may make sense, if the overall rate can be made acceptable. Removal of the capital gains tax free uplift on death where no IHT is payable – but deferral of the tax on those death gains until the asset is sold by the recipient.
Reliefs A cap on relief for business and farming assets, to perhaps £1m per person (currently unlimited) and the spreading of the tax payable over 10 or 20 years, to prevent the need to sell the business or farm just to pay the tax. Removal of relief for AIM shares.
Gifts Reducing and simplifying the seven year gift period, removing minor multiple exemptions to one simple amount and reduced record keeping. A lower rate of tax (10%) on gifts.
Trusts Recognition that these can be part of a sensible plan to encourage gifts while protecting the gifted assets from being used unwisely by young beneficiaries. Simplification of the taxes on trusts.
What planning should take place now?
- Consider making gifts now
- Review assets qualifying for relief and consider trusts
- Review and update your will
- Consider life insurance level (often the easiest way to plan for IHT)
1 see https://blackshawtax.com/2019/11/12/inheritance-tax-houses-common-errors/
Family investment companies (“FIC”) are popular for three reasons. For clients, (i) they can reduce or defer taxes on income from 45% to 19% or less and (ii) give away wealth for IHT purposes but retain some element of control. For advisers, (iii) there are large fees, as such structures are complex and require detailed advice.
Advantage (i) is as a result of the continued fall in corporation tax rates, compared to higher income tax rates. Advantage (ii) is a response to the restriction on the use of trusts via the tax system in 2006. Advantage (iii) may tempt some to “sell” as many FICs as possible to clients, rather than it being part of an adviser’s toolkit, suitable in only some circumstances.
What could go wrong?
The challenges FICs face are:
- complexity – in many cases there is a more simple and cheaper solution than a FIC
- future tax rates change (companies were a very bad idea for private assets several years ago and may be again in the future)
- company law changes
- targeted legislation (see-through legislation taxing the income / apportionment rules?)
- existing settlement anti-avoidance legislation (if there is an element of bounty eg uncommercial loans) or transactions in securities (there are rumours of HMRC attack in this area)
- costs, administration and reporting requirements can be expensive or burdensome
- they are difficult to unravel (more so than trusts)
- publicity, unless an unlimited or offshore company is used to limit that
- will the press see them (rightly or wrongly) as the next tax dodge, resulting in penal taxes in response?
- double tax charge on assets that grow in value and are extracted
- family/shareholder disputes (getting the bespoke company articles and shareholder agreement right first time)
- unknown unknowns (FICs are a very young idea compared to the tested ground of trusts)
These should all be considered in detail before putting a FIC into place, ie not just the advantages now but how future-proof are they, what stress tests and “what ifs?” should be considered?
With that, a fully informed decision can be made. FICs can be very useful in specific limited circumstances but beware having one just because it is in fashion or that somebody wants to earn a nice fee selling you one.
[This note was drafted in December 2016, updated in March 2017 and February 2018]
As a business begins to pass to the next generation three common themes tend to develop:
- “too many” children in the next generation (also known as a great talent pool!)
- a divergence in objectives from those of the founder – eg “this company will never have debt”
- new skills required as the business grows
A written agreement or family constitution may help to address these issues. Before that is drafted, here are an initial ten questions for the family to consider:
- What are the main reasons to continue, rather than sell?
- What education, skills and outside business experience should a family member have before becoming a director of the company, shareholder or trustee of a family trust?
- Do family members not working in the business rely on dividends or seek external employment?
- What future family conflicts may arise?
- Should the business always be wholly owned and run by the family or will it benefit from external hires?
- What core business and family values need to be maintained?
- What should happen if a family member wants to sell their shares?
- What criteria should be in place to remove a family member as director or shareholder?
- At what age should family members retire as a director of the company or trustee of the family trust?
- Will dividends and pension be enough to support the lifestyle of the retiring members?