Inheritance Tax

Financial Advisers Advice:

To attract BPR your business should: (a). Not be subject to a binding agreement of sale; (b) Pass an ownership test and (c) Should be classed as relevant business property.

(a) Many businesses have been set up so that on death the business is forced to be sold to a partner or spouse. This will lose you the BPR so avoid that with a more appropriate agreement mentioned below.

(b) The ownership test broadly means that the business should be owned for the previous two years and lastly (c), there are six categories of business that are classed as relevant property. The first three attract 100% BPR: (1). A business or interest in a business; (2). Unquoted securities in a business that gave the transferor control of the business. Control is taken to mean owning over 50% of the shares; (3). And lastly unquoted shares in a trading company. A new approach taken to avoid IHT is to buy shares or securities in AIM listed stock, which also attracts BPR. After 2 years the assets will benefit from 100% BPR.

The three remaining types attract 50% relief:
(4). Quoted shares, which gave the transferor control; (5). Land, buildings, machinery, and plant used by the business of which the transferor had control and lastly (6). As per (5) but where the property is held in trust in which the transferor had an interest in possession.

There is an issue relating to excluded categories. This basically means that any business will not be classed as relevant property if its whole or main business activities are securities, stocks and shares, land or buildings, and making or holding investments. You would not qualify for BPR in this instance. It doesn’t mean that if you own many of these assets that you will not attract BPR as they may be a genuine part of your business. You should speak to your solicitor or accountant about this to ensure you will qualify.

The definition of whole or main above basically means more than 50%. There was some useful guidance in a case of Farmer v the special commissioners, which had farming and letting elements. Many farms diversified to include caravans etc and some were caught because they lost BPR. The basic test in the Farmer v Commissioner showed that suitable capital was employed in the business in relation to its turnover. Capital meant employees, consultants, and overall time spent.

Care should be taken to ensure that as a business develops, it does not change to fall foul of these issues.

When you are putting together your succession plans in the event of death in relation to your business, be mindful not to use the old binding agreements above. Consider a straightforward arrangement such as a double option agreement. This is normally set up to allow the deceased’s surviving spouse the option to sell the business back to the surviving directors and also the directors the option to purchase. If either of the two parties takes up the offer the survivor must oblige. Its normal the company insures the main director whose policy pays out to the company, which in turn has the capital to complete the transaction and pay the surviving spouse for the assets. 

Expert’s view: Score: 10 out of 10

Excellent. Remember that business property relief is a relief and a relief can be reduced or taken away

Financial Advisers Advice:

I’ll give you a few options but be careful of one point, cumulation – I’ll explain (beware though, by my own admission this is quite a technical answer that you will have to read a few times but the tip is a good one): Everyone knows that if you make a gift it will take 7 years to be removed from your estate and there is a sliding scale on the tax during the 7 years. Cumulation occurs when another gift is made before the 7 years has passed.

Example: a chargeable lifetime transfer is made in July 1995 of £100,000. In June 2002 another is made (i.e. one month away from 7 years). The individual dies in December 2004 leaving an estate of £200,000.

At first we may think this is less than the nil rate band of £263,000 and there will be no tax to pay – you guessed it…no. To calculate liability we need to look at what transfers have been made in the 7 years prior to death. We also have to take into account cumulation at the time the potentially exempt transfer (PET) was made. Cumulation brings into play transfers that were made in the 7 years prior to the PET being made. This catches the gift made in 1995 and this £100,000 is taken off the nil rate band at the time of death of £263,000.We now have a nil rate band of £163000. They now assess the PET of £200,000 and the £37000 not covered by the nil rate band is taxed at 40%. The death calculation is now assessed. The estate is valued at £200,000 on death. The £200,000 PET made reduces the nil rate band of £263000 and the nil rate band is now £63,000.
As the estate is now £200,000, £137000 is not covered by the nil rate band and is taxed at 40%. The final bill is £69,600. To avoid the tax a few changes could have been made: If the second gift had have been delayed until the end of the first 7 year period there would have been a £14800 tax saving.

As to the remaining tax: Instead of making a gift of the £200,000 the £200k could have been put into a purchase life annuity. The purchase life annuity provides a very tax efficient income as most of the income is deemed as return of capital. On day one this capital has disappeared from the estate and avoids the seven-year wait. As the income is so high from the annuity a proportion of this could be used to then set up a life policy in trust for the beneficiaries. As it is in trust it would not form part of the estate and would be moved around to the beneficiaries tax-free.

The result as a difference from the above scenario is that the £14800 tax would have been saved, as would the second £54800 and the person making the gift would have enjoyed a healthy income in between – cake and eat it scenario. There is also the option of a trust that allows for a gift to be made into a trust of the £200k which is set up at the outset with an ‘income’ payable to the person making the gift. A calculation is made at the outset and the initial gift is discounted by the right to the capital coming back.


Expert’s view: Score: 10 out of 10

Excellent. Remember to consider the new laws relating to gifts into trusts post the last budget.

Financial Advisers Advice:

With the close brother’s property wealth manager arrangement you sell your house to the company who then lease it back to you. For your sale you do not receive cash just an investment into a load of other properties at pretty much the worst time to consider investment into property.

The document given refers in its key points to the investment as being liquid. Liquid?

I’d like to see that coming out of a tap! The accompanying document then says if you try and encash your investment it could be deferred for up to 12 months as the properties it invests into are not readily saleable. Better still the salesy brochure uses an example, which shows if a married couple, aged 75 (probably the average age for such a scheme) tried to encash they would be subject to a 60% discount.

Discount? Discounts are supposed to be good! This is a 60% charge. The whole idea is to save 40% tax and as well as paying the company 6.5% up front charge as well as 0.3% per year you will also have to fork out for all maintenance of your property as it is inspected every three years to see what alterations are needed! Oh by the way there’s another paragraph detailed ‘other expenses’ and that comes to another 0.7 of the fund!

In short, don’t bother as there are plenty of simple approaches to consider and here are a few:

Ensure your will is set up correctly. If you are a couple you can use both nil rate bands ensuring you don’t pay Inheritance tax for estates of £570,000 or less;

You could sell up and downsize to another property and use the cash to put into trust.

Many trusts allow you to put your capital away but also to still receive an income form the investment for the rest of your life;

Consider raising a mortgage against your property and putting that capital into trust. The debt will stay in your estate but the capital in trust will go outside your estate – the time taken dependent on the type of trust. The advantage here is that the mortgage interest is neutralised by the income coming from the trust so the net effect to you should be zero with the capital raised on the mortgage and subsequently put into trust making its way outside your estate and subsequently saving 40% in the process;

You could insure yourself for the tax and put the policy into trust. Although I do not like this option as it still involves paying the tax it would be considerably cheaper than the option marketed above;

Consider also selling your property to your children/beneficiaries and paying them a market rent for the property from the proceeds of the sale which you subsequently put into trust (a favoured option of mine if you can do it).

With this option you get to live in your property and also the capital is taken outside the estate. In many instances the income from the trust can be more than the rent you pay so you end each month with extra income;

You could of course give your house to your children but you would still have to pay a full market rent for the property otherwise it would be classed as a gift with reservation and fall back inside your estate again;

There is also the option of doing an equity release from your property and putting this in trust but there are more economical ways to release money from your property.

Expert’s view: Score 7 out of 10.

Very good. Consider all options before using expensive insurance company products.