Many entrepreneurs have an exit strategy that involves selling their business during their lifetime but for others the plan is for it to pass down to the next generation of the family.
If the business is going to stay in the family, you need to consider inheritance tax (IHT).
Thankfully, successive governments have recognised that charging IHT on businesses passed down the generations could act as a hindrance to enterprise.
The solution they came up with is Business Property Relief (BPR). Basically put, if you want to pass on the business that you have built up over the years to your children on your death, they will be exempt from paying any IHT on the value.
As long as the business is a trading company, not an investment company, and it has been trading for over two years, it is eligible for full BPR.
This also applies to shares held in unquoted companies. 50 per cent BPR could also be available on land, buildings, machinery and plant used by the business.
Business owners need to be wary, however, of assuming they are free to pass all their business on IHT-free. There are restrictions that can impact on the amount of BPR available or even if it applies at all.
Certain trades would not qualify at all: dealing in shares, land or property are all outside of BPR. This can lead to some marginal areas where specific advice would be required.
Property dealing is disqualified but property development is in.
The distinction is between merely buying and selling land (no BPR), and buying land, building on it, and selling the land and building (BPR). Furnished lettings, caravan sites and boarding houses are all grey areas where specific advice is needed.
Excepted Assets also need to be considered. BPR is not available on assets held by but not used for the business.
This could include property used mainly for the proprietor’s benefit such as accommodation over a pub.
The real area of concern here is surplus cash held within the business.
Owners need to take advice on how the cash is required for future business use, or for ways of withdrawing cash from the business tax-efficiently.
Most proprietors are aware of BPR and some may be conversant with some of the details.
But are many taking steps to ensure that this valuable IHT relief is used on their death?
Take an example where the business owner dies leaving all assets to the spouse.
BPR would have applied to the company shares but the spousal exemption overrides this so there is no IHT on the estate.
The spouse has no interest in running the business so sells it, crystalising the value into their estate.
On the spouse’s death, BPR is no longer available so IHT is payable on the full value of the business.
A simple way to avoid this band is to ensure that BPR is used to include a business property trust in the business owner’s will.
On his death, the company shares pass into trust using BPR so no IHT is payable.
The remaining assets pass to the spouse free of IHT under the spousal relief exemption. The trust can then sell the company shares.
The spouse is entitled to receive income, capital or loans from the money which is now in the trust.
On the spouse’s death, the trust is outside her estate so not liable to IHT.
Any children could be beneficiaries of the trust so they can access the assets or the estate can wind it up if needs be.
With inheritance tax potentially taking 40 per cent of the value of a business out of the owner’s estate, it is important that all possible steps are taken to preserve the benefits of Business Property Relief.
After all, it’s not often that the Government is happy to give up tax revenue and we would be foolish not to take advantage of such generosity.
* Trevor Law is a director with Merito Financial Services located near Solihull. E-mail: firstname.lastname@example.org