The Inheritance Tax headache

Could Business Relief be your secret weapon against IHT liability?

Tax rates are a hot topic this year, Inheritance tax (IHT) especially so with many considering it to be the most unfair tax of all. So, when does IHT apply and what can you do to minimise its impact?

Partner and Head of the Swinburne Maddison Private Client team, Anna Stephenson, teams up with Corryn Wild, Director and Chartered Financial Planner at Three Counties, to answer some common questions on IHT and explain how the hugely useful Business Relief may apply to more of us than we think.

Anna Stephenson

Partner and Head of the Private Client team

Anna starts off with an overview of the current IHT rules and some of the most popular methods of mitigating your tax liability.

First things first, is IHT always going to be payable? No, not for everyone. Generally, IHT will not be payable on estates below the value of £500,000. This tax-free threshold is made up of the “nil rate band” allowance of £325,000 and the “residence nil rate band” allowance of £175,000.

However, for estates which exceed the value of £500,000, the part of the estate which is above the tax-free threshold may be taxed at the standard rate of 40%. The good news is that the nil rate allowances I’ve mentioned are both frozen until 2026. Not only that, these allowances are transferrable between spouses and civil partners, vesting a potential maximum inheritance tax-free threshold of £1m on a second death. As with all things tax-related, I would always recommend that you take specialist legal and financial advice to ensure you fully understand the allowances at your disposal and any criteria which apply, so that your affairs remain as tax-efficient as possible. Careful Will drafting and estate planning may also assist in preserving these allowances, maximising the value of the estate that ultimately reaches your loved ones.

What are the “top tools” you recommend to clients who want to reduce their IHT bill? Lifetime gifting and the 7-year clock Making a gift of capital during your lifetime – either absolutely or via trust – is a useful way of reducing the value of your estate. For example, offering assistance to your children to ease their mortgage worries.

Provided that you survive the making of the gift by 7 years, the value will fall outside of your estate for IHT purposes, and give you the opportunity to see the gift being enjoyed by your chosen beneficiaries. Just be careful not to reserve a benefit in a gifted asset, for example by transferring the ownership of your main residence, as this could jeopardise your residence nil rate band allowance; a trap which many unfortunately fall into.

Gifts out of surplus income Making gifts out of surplus income is a tool often misunderstood or under-utilised. After paying your monthly outgoings, do you have surplus income building up which is boosting the value of your estate? If so, consider establishing a pattern of gifting this surplus, perhaps topping up the nursery fees of your grandchildren?

Charitable donations Gifting 10% or more of your residuary estate to charity under your Wills can reduce the rate of IHT from 40% to 36%.

What other reliefs are available? Agricultural Relief and Business Relief are valuable reliefs from IHT. Clearly, Agricultural Relief is one for farmers to utilise, but Business Relief can prove useful to more of us than you might think. And it’s considerable; Business Relief can provide IHT relief at a hefty rate of 50%, or even 100%!

Assets qualifying for 100% relief include:- • Shares in an unlisted company • A sole trader business or share in a partnership; and • Shares listed on the Alternative Investment Market (AIM)

50% Business Relief is also available in respect of:• Shares in a quoted trading company, in which the individual has voting rights; and • Land, buildings or plant and machinery owned by the individual and used in their partnership or a company that they control.

The business must be “wholly or mainly” trading to qualify for Business Relief and you must have owned the relevant business property for at least two years before the relief can apply.

Corryn Wild

Director and Chartered Financial Planner at Three Counties

Corryn tells us more.

What are the key benefits of using Business Relief to reduce IHT liability? Firstly, obtaining Business Relief is much faster than many other methods of reducing IHT liability. Typically, a Business Relief investor can benefit from a reduction to their IHT liability after only 2 years. This is particularly useful if someone is concerned that they may not survive for 7 years, the term required for many other methods of reducing IHT.

In addition, you retain ownership of the asset. Many methods of reducing IHT involve making gifts of capital or income, either directly or via trust. Whilst this works well for some, for many gifting is not appropriate. Perhaps they feel their family is not ready to receive significant sums of money, or maybe they expect to use the capital themselves at a future point. Business Relief investments can be held by an individual, in their own name and encashed in future years if and when the capital is required.

Is Business Relief only for people in business? Definitely not. Although Business Relief is obtained by business owners, this tax break is also available to private investors. Business Relief investment portfolios are mostly used by people in two specific situations:

Firstly, those individuals who have recently sold their interest in a business, perhaps to retire, or to seek a new business venture. When they sold the business, their entitlement Business Relief was relinquished. This means the value of their former business is now within their estate, potentially subject to tax at 40% in the event of their death. In this situation, a portfolio of Business Relief investments can be used as a ‘holding pen’ for their money, whilst they take time to decide their next move. Providing the new investment is made within three years of the sale of their business, it is possible to obtain immediate Business Relief, without having to start a new 2-year clock.

The second situation commonly arises because, for many, the desire to reduce IHT liability often comes later in life, when they become more focussed on passing their wealth to future generations. Sadly, this often happens at a time when people are not confident they will survive 7 years. In this case, after exploring all other avenues, a Business Relief investment portfolio may be the most sensible option. Some portfolios can be used to fund future care costs, meaning it is possible to use Business Relief for estate planning without restricting your ability to pay for your desired standard of care.

What are the downsides to Business Relief investing? Business Relief investments are, without doubt, considered high risk. For example:

Unlisted Business Relief investments may not be accessible immediately. Whilst many providers pride themselves on returning capital to investors within a short time period, typically around 30 days, this certainly isn’t guaranteed.

If you invest into companies which subsequently fail, there is a risk to your capital.You can lose money in Business Relief investments. It is therefore important to spread the risk using a portfolio which offers access to a wide range of business activities.

Business Relief has been around for over 40 years; as far as tax reliefs go, it’s relatively well tested and established. However, as with any tax legislation, this is always subject to change.

Please note that the content of this article should not be considered investment advice or any form of recommendation. This article does not purport to contain all information that a prospective investor may require and is subject to updating, revision and amendment. If you require investment advice, you should always consult an independent financial adviser.