We take a closer look at Business Property Relief, a little-known but incredibly useful planning tool when it comes to reducing inheritance tax, as well as explaining how it can be used alongside trusts for small business owners.
Did you know HMRC collected a staggering £5.2 billion in inheritance tax last year? In fact, every year, thousands of bereaved families find themselves facing an unexpected tax bill on their inheritance.
Inheritance tax is paid on the value of your estate when you die. Your estate could include your home, any other properties, savings and investments, and also any life insurance policies held in your name. Your estate will be completely free from inheritance tax if you leave it all to your spouse or civil partner. However, there may be an inheritance tax bill if you choose to leave some of your estate to family or friends.
If your estate is valued at less than £325,000 (known as the nil-rate band), there’s no inheritance tax to pay. However, your beneficiaries will be expected to pay inheritance tax at a rate of 40% on everything over that threshold. It’s important to remember that the inheritance tax due on your estate is paid by your beneficiaries (the people you choose to leave your estate to). They must pay the inheritance tax bill within six months of death being recorded.
Homeowners can also claim the ‘residence nil-rate band’, an additional allowance introduced in 2015. Provided the family home is left to direct descendants (children or grandchildren) a further £175,000 of inheritance tax relief can be claimed on the value of the estate. For married couples, any unused available reliefs can be transferred to the surviving spouse, meaning that it’s possible for a married couple to pass on an estate valued at £1 million, provided the family home is left to their kids or grandkids.
There’s increased speculation that inheritance tax reliefs could be changing. The government’s response to the coronavirus – including furloughs for workers, business loans and grants and even ‘eat out to help out’ meal deals have cost the Treasury billions and blown a hole in the public finances.
As a result, there are concerns that Chancellor Rishi Sunak could be looking to claw back some of his ‘giveaways’ by closing some tax reliefs – with inheritance tax firmly in his sights. So, now might be a good time to think about ways to invest your money while making it exempt from inheritance tax – starting with Business Property Relief.
First introduced back in 1976, Business Property Relief (BPR) was brought in to make it easier for family business owners to pass on the ownership of the business to their descendants without leaving them with a large inheritance tax bill. But since then, BPR has expanded, and is viewed as a tax relief that encourages investment into trading UK businesses. Shares in a BPR-qualifying company can be passed on to beneficiaries free of inheritance tax. However, BPR only applies to trading businesses that meet HMRC’s qualifying criteria.
It’s worth knowing that you don’t have to be a business owner to be able to invest in BPR-qualifying companies, and there are a number of good investment management companies that give investors the opportunity to invest in portfolios of companies that qualify for BPR. As long as the investment has been held for at least two years, and is included as part of the estate, it can be passed on to the beneficiaries free of inheritance tax.
The key benefits of using BPR for estate planning is that it is flexible. Other ways of planning for inheritance tax – such as making lifetime gifts or placing money in a trust – means that you lose control over the assets. But if you’re considering investing in a portfolio of BPR-qualifying companies, it’s important to understand the risks involved. Your capital is at risk, and you may get back less than you put in. Shares in unlisted companies can also be more volatile and harder to sell.
Setting up a trust can also help you to pass down more of your assets to your beneficiaries. Trusts are particularly useful where large sums of money are involved, where family relationships are a little complicated or where you don’t want children or grandchildren to receive the money until they reach a certain age.
There are many different types of trusts to choose from, but discretionary trusts are the most popular. Discretionary trusts are usually set up to provide money for a group of beneficiaries – for example, children or grandchildren, but a trustee is appointed to be responsible for managing the assets.
Any assets placed into a discretionary trust will be deemed outside of the estate for inheritance tax purposes, provided the person who set up the trust lives for a further seven years. However, inheritance tax may be payable (1) when the trust is created, (2) every ten years (known as ‘periodic’ charges) or (3) when trust assets are paid out to beneficiaries.
If you’re a small business owner and you are planning on leaving your business to your spouse, you might want to consider combining Business Property Relief with a discretionary trust. This is a good way to ensure your estate will remain free from inheritance tax for your children and grandchildren, as well as for your spouse.
It is possible to arrange for shares in the business that qualify for BPR to be placed into a discretionary trust. A trust is a legal entity in its own right, which means that the trust ‘owns’ the business, rather than the surviving spouse. If the spouse chooses to sell the business, it won’t trigger a tax bill as the trust will own the proceeds of the sale, rather than the spouse.
It’s not always easy to talk about what happens when you pass away. But you should have those conversations while you can, instead of leaving things till it’s too late. Estate planning can be complicated, and tax rules and tax reliefs are also subject to change. It’s important to sit down with one of our qualified financial planners who can explain the different options available to you, and work out a plan that will give you and your family peace of mind.
If you are interested in discussing your financial plan or investment strategy with one of our experienced financial planners, please get in touch.
This content is for information purposes only. It does not constitute investment advice or financial advice.