Navigating Inheritance Tax: An Insight on Business Implications and Relief Opportunities

WHAT IS INHERITANCE TAX?

Inheritance Tax (IHT) is a tax imposed on the estate of a deceased person. It is levied on the value of the estate before it is distributed to the heirs and paid by the estate prior to any of the assets being distributed. Assets can include cash, investments, equipment, and real estate.

The current tax-free allowance on inheritance tax is known as the "nil-rate band." This is the amount of the estate that is exempt from inheritance tax. This means that if the value of the estate is below the threshold of £325,000, no inheritance tax will be due unless a lifetime gift has been made which uses the nil rate band in the previous 7 years. Anything above the threshold will be taxed at 40% per individual frozen until 2027/28.

The estate can pay Inheritance Tax at a reduced rate of 36% on some assets if you leave 10% or more of the ‘net value’ to charity in your will. (The net value is the estate’s total value minus any debts.)

As well as the nil rate band there is a residential nil rate band of up to a maximum of £175,000 per person where they leave their home to their direct descendants.  The relief is restricted if the value of a person’s estate exceeds £2m.  Both the nil rate band and the residential nil rate band are transferable to a surviving spouse if unused on the first death.

Inheritance tax may also be charged on certain lifetime gifts to trusts and on property held in trusts. This article does not deal with those charges.

HOW DOES INHERITANCE TAX AFFECT A BUSINESS?

As a sole trader, your business is not a separate legal entity. This means upon your death; your business assets will form part of your estate and if this exceeds the £325k threshold will be subject to inheritance tax.

With the rate at 40%, this means the heirs could be liable for a significant amount of tax.

Another business structure is a partnership, where two or more people own and operate a business. In the circumstance of one partner passing away, their share of the partnership assets is subject to inheritance tax again if the value exceeds the current threshold.

A limited company is a type of business entity that is a separate legal identity from its owners therefore, when a shareholder passes, their shares in the business are subject to inheritance tax.

RELIEF AND EXEMPTIONS

Business property relief is a tax relief that can reduce the inheritance tax liability on certain business assets when they are passed on as part of an estate. The relief applies to the transfer of ownership and the value of qualifying business assets, such as shares in unlisted companies, sole trader businesses, and certain types of agricultural property. The relief can be as much as 100% if the business is a trade and is designed to encourage entrepreneurship and support the growth of small and medium-sized businesses by reducing the tax burden on business owners and their heirs.

Agricultural property relief is an exemption from inheritance tax available on the value of any land, buildings, livestock, and assets used for agricultural purposes. To qualify for APR, the property must meet certain conditions in brief the main conditions are:

1. It must be agricultural property, which is defined as land or pasture that is used for the purpose of agriculture, including the breeding, and rearing of animals and the growing of crops.
2. The agricultural property must have been owned and used for agricultural purposes by the deceased person for at least two years prior to their death. Relief may also be due where the land is owned for 7 years and farmed by another party subject to certain conditions.

If the property meets these conditions, it may be eligible for 100% APR, which means that no inheritance tax is due on the transfer. However, it is important to note that there are some exceptions and limitations to this relief. Relief is only due on the agricultural value of land and not hope value, although business property relief may also be due on the balance of the value, and on other assets that may not qualify for agricultural property relief.

Some gifts you give, while you are alive, may be taxed after your death if you die within 7 years of the date of the gift. Depending on when you gave the gift, ‘taper relief’ could mean the Inheritance Tax charged on the gift is less than 40%.

Overall, inheritance tax can have a significant impact on a UK limited company and its shareholders, and it is important to plan ahead and take advantage of any available reliefs and exemptions to minimize the amount of tax payable. It is recommended to seek professional advice from a tax specialist to ensure that the appropriate exemptions and reliefs are claimed and that the estate is planned in a tax-efficient manner.

The most fundamental estate planning you can do is to ensure you have an up-to-date will in place which reflects your wishes as to how your estate should be distributed. Speak to our experienced tax team today!