Chris Williams outlines how a family company who has made loans to a company can get business property relief for inheritance tax purposes.
Businesses get relief from inheritance tax (IHT) don’t they? Well mostly, yes; but not every form of investment gets business property relief (BPR). The most commonly overlooked are loans to the business which simply don’t get any relief at all. But there are ways of turning those loans from ‘investments’ that are chargeable to IHT into shares that get the relief.
The questions to consider concern the type of shares to use, the mechanics of issue and how your additional investment fits in with wider considerations, in particular the need to maintain equity with other shareholders and maximise other reliefs such as capital gains tax entrepreneurs’ relief (ER).
What shares should I use? Keep it simple
Unless you have a particular reason to use a different class of shares, simply issuing new ordinary shares with a nominal value equal to your loan account will be the easiest thing to do.
Complication may set in if you are not the only shareholder and the other shareholder(s) need to maintain their share in the company’s equity. If that is the case, you’ll probably need to issue preference shares (‘prefs’), a separate class of shares without votes, whose value is pegged to the amount subscribed, i.e. the amount of your loan. That way, every shareholder’s position is protected.
How soon will the new shares qualify for BPR?
In the simple case of a new issue, the shares won’t qualify for BPR until you’ve owned them for two full years.
If there is a more urgent need to get the BPR in place this is possible by arranging a ‘rights issue’. This will be a more complex and expensive process than a simple issue, but it can be arranged quickly if you are the only shareholder or if the other shareholders agree. However, if there are other shareholders they will have to be offered shares of the same class as you and on the same terms in the rights issue. Shares offered in a rights issue can be prefs.
How will the new issue affect entrepreneurs’ relief?
If you already qualify for ER, your new shares will also immediately qualify for ER; you won’t have to wait for a year.
Can I give the new shares away?
There is nothing to stop you giving away the new shares; they should qualify immediately for ‘gift hold-over’ relief from capital gains tax, and if you used a rights issue you can put them straight into a trust with the benefit of BPR and not pay IHT on the settlement.
Shares you give away won’t qualify for ER in the hands of the recipient unless they already qualify for ER in their own right, but if they do the gifted share will be eligible for ER immediately. If you’re taking the opportunity to give shares to a spouse or other family member they won’t get ER just because they own shares; they will have to meet a 5% minimum ownership test and be an officer or employee for at least a year, but then they will qualify.
Practical Tip:
Make sure your new shares give you a good return. You can set the terms of preference shares to give you a good return: the company won’t get a corporation tax deduction, but also it won’t have to deduct any tax on the dividends. But you’ll get a credit that means you only pay tax on the dividends if you’re liable for higher rate or additional rate income tax.
