Trusting your family with business assets

Oct 18 2006 By Andrew Facer, The Journal

With recent changes to the Finance Act (2006) adding a layer of complexity to the area of Trust law Andrew Facer, partner at Ward Hadaway, explores some of the opportunities that still exist, particularly for business and farming assets.

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The most common reason for a business owner to pass assets into Trust is quite simply that a Trust allows the owner to continue to control the business and to benefit other family members, without having to decide immediately whether the business is to be sold or handed down.

With an immediate Inheritance Tax (IHT) charge of 20% on the value above £285,000 entering the Trust, it is now much less tax-effective to pass substantial investment assets into Trust, but there is no immediate IHT charge on most business or agricultural assets passing into Trust.

As an example, John Smith owns Widgets Ltd., worth around £5m. John is in his late 50s and is actively involved in the business. His son Richard is 30 and has been an employee in the business for the last ten years.

It is possible that Richard will continue to run the business, but it is not clear whether he will be able or want to do so.

John wants to continue to control the business, but wishes to encourage Richard. John does draw commercially sensible director's fees from the company but not dividends.

John therefore has decided to give his shares in Widgets Ltd to trustees, which will be himself and his wife Angela.

They will hold the shares earmarked for Richard, and if Richard continues to show the aptitude and ability to run the business, then John and Angela will pass the shares to him outright. Otherwise they may sell the company and distribute the proceeds to Richard, their daughter Louise and indeed any future grandchildren.

John is also concerned that Richard is not yet married. If he was to give the shares to him outright he is concerned that divorce or relationship problems may mean the shares are open to attack. By passing the shares into Trust they are to a greater extent protected from the profligacy or divorce of Richard.

There will be no tax payable on the shares passing into Trust because, for IHT purposes, business relief at a rate of 100% will apply and any gain in the shares can be held over until a sale. Even if business relief was to fall below 100% in the future, to say 50%, by giving the shares into Trust now the relief of 100% is secured.

Even if John died in the next seven years, provided the shares were still held by the Trust no IHT would be payable.

As events happen, Richard does not wish to continue to run the business and it is sold in four years' time, so because the shares were held in Trust, John is able to distribute some of the proceeds to Richard and Louise, retaining part under his control to provide for grandchildren. This is not a gift by him as he made the gift four years previously when he passed the shares into Trust.

If John had not passed the shares into Trust, he would only be able to earmark around £300,000 for the grandchildren as IHT would be payable at 20% above this.

Likewise he would be faced with the unpalatable decision of whether to give substantial sums outright to Richard and Louise, pay 20% tax by putting into Trust to maintain control or continuing to own these sums in the knowledge that IHT at 40% would be payable on his death.

Timing is quite clearly of the essence when it comes to IHT and as an owner/manager of a business, now is the time to start planning.