Tag: CGT

Now might be a good time for the owner of a privately held trading company or business to think about making lifetime gifts of shares/an interest in the business.

One of the reasons I find tax law interesting is because in crafting the legislation, frequently those who design it identify areas where a carve out from the general rule is desirable. An example is in Inheritance Tax (‘IHT’) where to date if someone dies or makes a lifetime gift and their estate/the gift comprises of shares in an unquoted trading company or business, that asset (as a general rule) passes because of IHT business property relief (‘BPR’) at a zero percent charge to IHT.

If a lifetime gift and the donor dies within 7 years, two conditions need to be satisfied being:

  • The original property gifted has been owned by the gift recipient throughout, between the date of transfer and the donor’s death (or earlier the death of the gift recipient); and
  • The original property (or in certain cases replacement property) still is ‘relevant business property’ meaning it qualifies for 0% IHT treatment because of the BPR rules.

There are similar rules for qualifying agricultural assets.

The logic for this relief is because it would disadvantage UK plc if e.g., X, the sole owner of a trading business worth say £4m, died and their estate was within IHT and £1.6m of tax was due on their trading business asset.

In September 2023 the Institute of Fiscal Studies issued its Green Budget. Chapter 7 is entitled ‘Reforming IHT’. Its recommendations as regards IHT BPR say as follows:

5. There are several problems with the current design of inheritance taxation. Reliefs for agricultural and business assets and certain classes of share open up channels to avoid the tax and are consequently costly and inequitable and distort economic decisions. There is a clear case for eliminating the special treatment of all of these types of assets.

6. Abolishing agricultural and business reliefs could raise up to around £1.5 billion a year. How much revenue would be raised is uncertain and depends on various factors including whether other channels are used to avoid inheritance tax. Making these changes together would reduce the scope for substituting one avoidance channel for another.

7. Four-fifths of the tax revenue from reform to business relief could be captured just by capping the relief at £500,000 per person, rather than outright abolition. Most business wealth is concentrated among those with high wealth, so the fiscal cost of an additional half a million pounds threshold for business wealth would be low, though the special treatment would remain unfair and distortionary.Around 90% of business wealth bequeathed is given as part of an estate worth over £2 million.

The present IHT BPR regime has no cap on the value of qualifying assets on death or in lifetime that can pass at a 0% rate of IHT. The shelf-life of this present generous regime is unknown and therefore owners of qualifying trading assets may want to consider passing on e.g., to children or a family discretionary trust qualifying assets especially if the intention is for the business/trading operation to continue well into the future.

The main IHT anti-avoidance rule concerning gifts with reservation of benefit needs to be kept in mind by the donor. In its IHT tax manual HMRC says in the context of lifetime gifts of qualifying IHT BPR assets: ‘The continuation of existing reasonable commercial arrangements in the form of remuneration and other benefits for the donor’s services in a business entered into before the gift does not amount to a reservation provided the benefits are in no way linked to, or affected by, the gift.

What is ‘reasonable’ will depend on all the facts but, broadly, HMRC should test this by reference to what might reasonably be expected under arm’s length arrangements between unconnected parties.

If, however, as part of the overall transaction, including the gift, new remunerative arrangements are made, HMRC will need to examine all the facts to determine whether the new package amounts to a reservation ‘by contract or otherwise’.

In other words, the donor can continue to work in the business and be paid on an arm’s length basis.

Capital Gains Tax (‘CGT’) and ‘qualifying gifts’

The CGT legislation contains reliefs for gifts of business assets by allowing the gift recipient to assume the CGT base cost of the donor. This relief is called ‘hold-over’ relief. To qualify the asset gifted must fall within one of the following categories:

  • Is, or is an interest in, an asset used for the purposes of a trade, profession or vocation carried on by:The donor, or Their personal company or A member of a trading group of which the holding company is the donor’s personal company; and/or
  • Consist of shares or securities of a trading company, or of the holding company of a trading group, where: The shares or securities are not listed on a recognised stock exchange, or The trading company or holding company is the donor’s personal company.

A ‘personal company’ means a company in respect of which the donor can exercise at least 5% of the voting rights.

There is no knowing if a future administration might seek to amend the present IHT BPR rules. Should it want to, the IFS Green Budget gives it some cover. There is no guarantee that any future changes in IHT BPR rules will be avoided by making e.g. lifetime gifts now. What is I think non-contentious is that as a general rule, the UK does not make its changes in tax law retrospective. 

Should you want to discuss anything raised in this note with someone from Streathers, please contact Robert Schon. Direct dial is 020 7267 5010 and email is rschon@streathers.co.uk

Guidance for grandparents when writing their will

Inspired by an item by Helena Luckhurst of the London law firm Fladgate LLP.

This note offers guidance to anyone who wants to leave assets to minor grandchildren in their Will. Its focus is making provision for minor grandchildren and the tax consequences of the different options. I will shortly write on the options for making provision in a will for minor children. This note is not exhaustive; for example, it doesn’t mention the special types of trust that may be available for minors who are disabled. Its purpose is to raise awareness of the different options available to grandparents when thinking about writing a will.

Where the client has children, most wills say:

  • All to my spouse/civil partner if s/he survives me;
  • If I am the second to die; all to my children in equal shares; and
  • If a child has predeceased me leaving a child or children, that child or children are to take the share of their deceased parent in equal shares.

Clients are frequently content for minors to inherit modest amounts outright. My experience is clients do not want a minor to inherit substantial sums at 18 or younger. It may be the last option described below is the most flexible choice. Grandparents must make their own decision from the alternatives described.

A bare trust for a minor – this is the only option available to a grandparent for a minor to inherit at an age younger than 18

If at the time of the grandparent’s death the grandchild is a minor, the only issue preventing the minor from taking their inheritance is the grandchild’s minority. Assets passing to the grandchild are, therefore, assented to a bare trustee(s) who will hold and manage the assets for the grandchild pending their attaining 18.

At 18 the grandchild is able to call for their inheritance. From the date of the grandparent’s death the inheritance belongs in law to the grandchild. For example, if the grandchild died whilst a minor their assets would be within their estate for Inheritance Tax (‘IHT’) purposes and would, as a general rule, pass under English intestacy rules.

Whilst the grandchild is less than 18 income or capital from their inheritance can be applied for their benefit. The grandchild will annually to 5th April be subject to income tax and capital gains tax (‘CGT’) on income or gains arising in excess of any available personal allowance or annual CGT exemption. The minor may need to file a tax return.

On the grandchild attaining 18 there is no IHT on the assets being transferred into their name from that of the bare trustee(s).

A key issue when drafting the will is who the grandparent appoints as bare trustee(s) pending their grandchild attaining 18. It is the job of the bare trustee to manage the grandchild’s inheritance pending the grandchild attaining 18.

Where the grandparent does not want to set an age for the minor grandchildren to inherit

Grandparents have 2 choices. Their will can either create an immediate post death interest trust (‘IPDI’) or a discretionary trust. Each has its own tax regime. Grandparents need to have these in mind in making their decision as to how they structure via their will how any grandchild inherits.

A discretionary trust

A grandparent preferring to keep their options completely open can provide in their will after their death for a minor’s inheritance to pass into a discretionary trust. The trust can last for up to 125 years and the class of beneficiaries can be very widely drawn to include for example all the heirs and their spouses/civil partners of the client’s parents. This breadth means inheritances can be reallocated between family members as the needs of the different family members become clear. It also allows inter-generational IHT planning because it allows family wealth to pass down the family tree (or between siblings) without the 40% IHT charge that can apply when a family member passes their wealth them self on their death to a family member.

The discretionary will trust trustees will usually be guided by written advice (a letter of wishes) written and signed in the lifetime of the grandparent to the trustees setting out the thinking of the grandparent(s) on when income and capital distributions should be made from the trust to a beneficiary e.g. for each grandchild to receive their share of capital at age 25.

Whilst assets remain within the discretionary trust, trust income or capital can be applied by the trustees to or for a beneficiary’s benefit both pre and post minority.

Discretionary trusts are subject to the IHT periodic charge regime throughout the lifetime of the will trust. In essence the trust fund is subject to a maximum 6% rate of IHT every 10 years from its creation and after the first 10 years it is subject to an IHT exit charge when assets leave the will trust. The rate of the exit charge depends on how long the assets have been in trust after the last 10 year anniversary and their exit from the trust. For example, a capital distribution after 15 years would trigger an IHT exit charge (at current rates) of 3%.

Gains realised on capital distributions from a discretionary trust to a beneficiary (e.g. when the trustees transfer shares or real estate absolutely into the name of a grandchild) can be deferred until the beneficiary disposes of the asset i.e. the gain can be ‘rolled over’ thereby deferring any CGT charge.

An IPDI

An IPDI is the vehicle for a grandparent who does not want their grandchild to inherit outright on their death and who does not want to have any IHT 10 year charge or exit charge applying to the minor’s inheritance while it is in trust-see above.

An IPDI must by law give the grandchild the right to the income of their inheritance as it arises-no matter what the age of the grandchild. The income is taxed as the grandchild’s.

The terms of the IPDI can provide for the trustees to be given the power to distribute the inheritance to the child at any age. The timing of capital distributions remains at the discretion of the trustees. The grandparent can however give guidance to the trustees via a letter of wishes as to the age they consider a transfer of capital to the grandchild appropriate. As with all trusts, the choice of who the client appoints as the IPDI trustees is crucial.

The flexibility an IPDI trust offers can be very helpful in protecting the minor as s/he gains financial maturity.

The price for avoiding the IHT 10 year charge and exit charge described above for discretionary trusts is that the IPDI assets form part of the IHT estate of the minor and will be subject to IHT whenever s/he dies and at whatever age. This risk can be covered by insurance.

The transfer of capital assets out of the IPDI trust to a beneficiary e.g. the minor on attaining 25 is a disposal for CGT purposes for which the gain usually cannot be deferred. CGT will be payable at the trustees’ rate of CGT being presently 20% unless the asset being disposed of is e.g. a buy to let residential property when the rate is 28%.

The grandparent keeping their options open

A discretionary trust can be included in the grandparent’s will with a power to appoint capital onto different trusts. The IHT and CGT law allows the trustees of the discretionary will trust to have up to 2 years after the grandparent’s death to turn the trust into any of the options described above. For IHT and CGT purposes the consequences will be the same as if the grandparent’s will had included that option in the first place. The key is for the grandparent to trust their choice of will trustees to make the right decision when the time comes. The grandparent can write them a letter of wishes to set out their thinking but the decision will be that of the will trustees.

Concluding thoughts

I am embarrassed at the complexity of this topic. It may be the grandparent(s) should consult each of their children and agree together for each child the approach they think best serves that child’s family.

I enjoy helping a client write their will. I describe a will as being the last communication of love one leaves.  As such (in my opinion) it should seek to minimise family division and be as useful as possible. Only the person writing their will can look at their family and their loved ones and decide in the light of the choices available what they think is likely to work best for their heirs. If you think I might be able to assist you, please get in touch.

Robert Schon