If you are a business owner, it’s likely that your business is one of your main assets. You may want to pass your business to the next generation as a going concern, or you may want your dependants to benefit from the value of the business after you’ve gone.
The good news for many business owners, is that businesses and their assets are often exempt from Inheritance Tax because of Business Property Relief. But it’s not as simple as that. Just because you have a business, doesn’t mean it’s automatically exempt.
It can be a bit of a minefield, but this quick and easy guide will help you work out where you stand. From this starting point, you can plan your business for the long-term future. And, with our help, you can create an Estate Plan that makes the most of this valuable relief.
When is Business Property Relief Available?
If you have a business, or an interest in a business, whether a sole trader, partnership or limited company, your business has 100% relief, and is exempt from Inheritance Tax, provided it’s inherited as a going concern.
If you personally own premises or plant and equipment, which is wholly or mainly used by the business, the premises or plant and equipment qualify for 50% relief, so you get a 50% discount on Inheritance Tax.
If you have invested in the Alternative Investment Market (AIM), your AIM shares can be inherited free of Inheritance Tax, because they benefit from 100% relief.
When is it NOT Available?
To get Business Property Relief, you must have owned the business, asset or AIM shares for at least two years before your death. So, if you pass away shortly after acquiring the asset, you don't get the relief. The only exception to this is if you inherited the asset from your spouse, who’d in turn owned it for less than two years. In that case, your period of ownership is added to that of your late spouse. If the combined period of ownership exceeds two years, you get the relief.
Business Property Relief is not available for businesses are “wholly or mainly” involved in dealing in shares and securities, or land and buildings, or in making and holding investments. This is bad news for Buy-To-Let Investors, because Buy-To-Let Portfolios are treated as investment businesses and don't qualify for Business Property Relief. That means Buy-To-Let Investors need to work a bit harder to reduce their Inheritance Tax liability. For help with this, see our Seven Inheritance Tax Tips for Buy-To-Let-Investors.
What is “Wholly or Mainly”?
Your business may be partly engaged in trading activities like the sale of goods of services, but partly engaged in investments. For example, you may have originally set up your company to sell goods and services, and may later have diversified the company’s activities into acquiring and renting out land and buildings. If less than 50% of the company’s activities is in land, shares or investments, you can still have the relief.
In deciding where the bulk of the company’s activities lie, HMRC will look at several factors, including the overall context, capital employed, expenditure and time spent, turnover and profit. So, whether you’ll qualify for relief doesn't just depend on where the bulk of the company’s revenue comes from.
For more certainty, however, with diversified businesses, it’s worth considering setting up a second company, to keep trading activities separate from investment activities. Then at least you can be sure that the trading business will qualify for full relief.
But don't, whatever you do, make the trading company a subsidiary of the investment company. If you do that, you lose the relief altogether.
Why you shouldn’t leave your business to your spouse.
Leaving your business absolutely to your spouse is a waste of Business Property Relief. Everything you leave absolutely to your spouse will be inherited tax-free in any event, because of the Spousal Exemption from Inheritance Tax.
A better solution is to leave the business assets as a Trust Fund, by way of a Family Trust Will. This preserves the Business Property Relief, and still gives your spouse access to the income from the business for life, before the benefit is then enjoyed by the next generations in their turn.
Don't hoard cash.
Even if your business otherwise meets all the criteria to qualify for Business Property Relief, beware of the amount of cash held in the bank. If your business holds a large cash balance in the bank at the time of your death, Business Property Relief won’t be available on that cash unless there is proof that it’s essential working capital that’s needed to run the business properly or it’s earmarked for future projects.
It’s better to take non-essential cash out of the business and into your own personal reserves than to hoard it in the business account. You can take your accountant’s advice on the most Income-Tax-efficient way of withdrawing the cash, and once it’s in your personal reserves, your financial advisor can help you invest it in ways that shield it from Inheritance Tax.
Is your Business Resilient?
What if something terrible happened to you? Would your business survive if you weren’t around to run it? How would your customers, staff and suppliers be affected? More importantly, how would your family manage if they depend on the business for their livelihood?
Making your business resilient to disasters like death and incapacity is every bit as important as securing your Business Property Relief – if not more so. There are key estate planning decisions you can make to ensure that your business will survive after you’re gone.