If you have clients who own their own business, it’s highly likely you’ve had conversations with them about tax in the past few months.
For instance, those considering paying a dividend may be facing a higher charge following the change to dividend tax earlier this year. Meanwhile, recent legislation changes have restricted the amount of money they can invest in a personal pension while still keeping all of the associated tax benefits.
Fortunately, there are some solutions. Business owners and owner-managed businesses are increasingly turning towards government-approved tax-efficient investments. Investors can feel confident the tax benefits they claim are in return for helping UK smaller companies – an important part of our economy – to prosper.
And there is another area where financial advisers can add value for business-owning clients: when it comes time for them to sell their business. While the family business would usually be expected to be passed on free of inheritance tax (IHT), the client may leave behind an IHT liability in respect of the proceeds if they sells the business during their lifetime.
IHT is unlikely to have been much of a concern for clients who have been running their own business for many years. Their shares would most likely have qualified for Business Property Relief (BPR) upon their death, meaning the shares could have been passed on free from IHT.
When it was introduced in 1976, the main aim of BPR was to ensure a family-owned business could survive as a trading entity after the death of its owner without having to be sold or broken up to pay an IHT liability. Over time, successive governments have expanded BPR, and for the past two decades it has also been an investment incentive for private investors. Investments that qualify for BPR can be passed on free from IHT upon the death of the shareholder, provided the shares have been owned for at least two years. There is no maximum amount of investment that can qualify. As BPR has been expanded down the years, some of its finer points have changed. But the broad principle has always been that ‘relevant business property’ will receive relief from IHT.
However, with the sale of their business, a business owner could trigger a potential IHT liability on their estate practically overnight. Many business owners might be unaware that IHT exemption on their business is lost at the time the sale of the business is agreed, not when the deal has been signed and business ownership has been transferred.
Window of opportunity
If the client was in poor health, an adviser would likely urge caution against traditional forms of estate planning, such as gifts and trusts, which take seven years or more before becoming free from IHT. However, there is a three-year window during which time the proceeds of a business sale can be invested back into BPR-qualifying assets. Known as ‘replacement relief’, if the client invests some of the sale proceeds in a BPR-qualifying investment, they won’t have to wait two years – their investment will immediately be exempt from IHT.