Inheritance tax and your family company

Given the current rate of Inheritance tax is 40% this can represent a substantial tax charge, particularly if you have valuable assets such as shares in your family company. The key relief for inheritance tax is business property relief ('BPR'). This provides for a 100% relief against the value of shares in an unquoted trading company. Therefore if your shareholding qualified it would effectively be excluded from your estate for IHT purposes. Ensuring that your shareholding qualifies for full BPR can reap dividends as this would then avoid the 40% tax charge on the value of the shareholding. However, as you'd expect this is not straightforward and there are a number of obstacles to gaining full relief. Obstacles to full BPR relief Firstly BPR is not due where the business carried on by the company, consists wholly or mainly of making or holding of investments. There is no statutory definition of 'wholly or mainly' and HMRC would look at the main activities of the business, and to its assets and sources of income or gains, over a reasonable period. If your company was wholly or mainly involved in the holding of investments no BPR would be due. Assessing whether the company is involved 'wholly or mainly' in investment activities can be complex. HMRC would look at the accounts and assess the assets, income and time involved in the relevant activities to assess whether the investment aspect exceeded 50% of the total activities. Any type of investment activities can be taken into account for this, however the most common are having substantial cash balances and also let properties on the balance sheet. A review of the accounts by HMRC would instantly highlight these assets and they would then look in detail at whether the company was 'wholly or mainly involved in an investment activity. In many cases the investment activities of the company would not make the company an investment company. However there can still be a restriction. Note that if the company fails the test above and is wholly or mainly involved in an investment activity there would be no BPR. Excepted assets The other restriction applies a proportionate restriction for any 'excepted assets'. Excepted assets are assets that are not: used mainly for business purposes in the last two years (or, if shorter, their period of ownership). required for future use in the business at the time of the transfer/death. It's important to note that cash balances can be excepted assets, to the extent that they are not required for day to day activities or for specific business plans. Therefore if you had substantial levels of cash in your company you would need to be able to support the use of the cash in the company. For instance are you looking at a potential acquisition or the purchase of new machinery etc. Is the cash required for other business purposes eg a buffer in the case of legal claims etc. If there is a viable business reason for the holding of the cash this could ensure that the cash was not an excepted asset. It should also be noted that 'business purposes' is much broader than 'trading activities'. Therefore if the company includes both a trading activity and property investment, providing the extent of the property investment business does not cause the shares to fail the first test (above), it could be argued that the property investment assets are not excepted assets, as they are used for business purposes. HMRC have been known to challenge this on the basis that the investment activity is not a business (usually due to lack of active involvement by the directors). If some of the assets of the company are excepted assets the amount of the transfer qualifying for BPR, is the value of the shares gifted multiplied by the fraction below: Gift x Total assets - Excepted assets/Total assets There would then be a proportionate restriction in the amount of BPR. If there is a risk that there could be a restriction in BPR consideration should be given to extracting the cash from the company tax efficiently.