Topical Tips 96

May 2007

Families or business partners usually wish to ensure that they can properly plan for the death of a shareholder. If they undertake tax planning or succession planning without detailed advice then unexpected consequences can occur.

In TT43 we reported on a case where family asset planning created a problem for Inheritance Tax (IHT). Here we review two other common pitfalls illustrating potential problems for family owned companies and their succession planning. Both examples centre on the misunderstanding of how Business Property Relief (BPR) exempts assets from IHT.

BPR will exempt assets from the charge to IHT if they are qualifying assets and they have been held for the minimum period of two years. Most commonly in our client base such qualifying assets are shares in unquoted companies, however these are not the only assets that receive this relief. It is possible to damage your ability to claim this valuable relief by using qualifying assets for non-qualifying purposes.

Note: BPR cannot be claimed for companies carrying on certain non-qualified activities such as share dealing, dealing in land or buildings, or the making or holding of investments.

Problem! The Inland Revenue will maintain that on the death of one party, their estate no longer owns shares that are exempt from tax, but owns an amount due by the survivor which is taxable to IHT!

Solution! Ensure any such agreements only allow the survivor the option to buy the shares from the deceased's estate. Therefore this option can be triggered after the death and the shares are free from IHT in the estate of the deceased.

A parent wishes to pass on his or her shares in the family company to the next generation. They know the shares are free from IHT as they qualify for BPR, and they know that if they give them to the next generation they can claim hold-over relief and no Capital Gains Tax is payable. They therefore make a gift to the next generation, either to the individuals or to a family trust. The next generation trade successfully and sell the company a few years later.

Problem! If the parent dies within seven years of the gift then all assets gifted in the last seven years are added back to the estate for the calculation of IHT. Common sense would suggest that as the asset given away (the shares in the company) qualified for BPR at the date of the gift then this exemption would still apply when it is added back to the estate on death. Unfortunately, common sense is not built into tax legislation. The asset given away has ceased to qualify as it has changed from being shares to being cash and is taxable to IHT!

Solution! Will planning must be kept under review as family and financial circumstances change regularly. Good Will planning can seek to mitigate IHT as much as possible, but Wills must be kept up to date.

• BPR can apply to a range of assets, so it is vital to ensure you understand the nature of the assets you own.
• Consider that any wrongly worded agreements over shares could be costly.
• Don't neglect to have your Wills reviewed on a regular basis to ensure they are as efficient as possible, whilst maintaining necessary, flexible access to your wealth.

Consult your Barnes Roffe contact Partner for advice in this important area.