Investment Companies: Pass on wealth tax efficiently

23rd April 2020

Business owners who have built up a valuable private investment company (holding cash, private or quoted equity and/or property), accumulated either from scratch or after the sale of a trading company subsidiary, will be all too aware that the lack of entitlement to Business Property Relief (BPR) creates a problematic inheritance tax (IHT) exposure. So a question I am often asked: “What can I do to tax efficiently pass on this wealth to the next generation?”.

  1. Best advice has traditionally been to gift these shares into trust, with a holdover relief capital gains tax (CGT) election, then survive for 7 years. With, or without, a subsequent advancement of these shares out of trust to the ultimate beneficiaries, with another holdover relief election. But trusts are not always popular, tax is triggered if the initial transfer value exceeds £325k, 7 years may be an unrealistic horizon, trusts incur a 10 year anniversary tax charge and the business owner may not be able to afford to forego receipt of future dividend income from this source.
  2. Another solution continually gaining popularity is to rely on the 2006 precedent set by the Rhoda Phillips v HMRC Special Commissioners case. This related to a situation where a new company was established, assets within the existing investment company were sold to newco, with consideration left outstanding. The case established that this made existingco a money lending trade (ie not a business which consisted wholly or mainly of making or holding investments), the holding of shares in which were entitled to BPR after 2 years from the restructure. This solution has obvious appeal, so long as HMRC do not take a case to a higher court, or enact new legislation, to overturn this arguably unexpected tax treatment.
  3. A further solution is for business owners to convert their existing shares into shrinking (with capital value being fixed at market value at the date of the conversion, less future dividends paid) or frozen shares. New (growth) shares can then be issued to the next generation. This transfers all future net annual investment income profits and capital growth to other members of the family, maintains an income source for the founders and year by year reduces the IHT exposure. It is also a structure similar to that which most business owners are already familiar with. Such an arrangements is often referred to as a Family Investment Company.

As with all tax planning, professional advice should be sought first, to ensure suitability for your personal circumstances (in relation to succession, asset protection, complexity, control, costs, administration, confidentiality, other taxes, timings and risks).

Blog entry by: Ian Piper

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