Inheritance Tax (IHT) has remained largely unchanged for a long time now, despite an extensive review of the system pre-Brexit which hinted at wide-reaching changes.
These never came to pass, and therefore the changes in the Autumn 2024 Budget are probably the most significant amendments in many years.
What Changed?
The biggest change announced was in relation to the IHT payable on assets qualifying for Business Property Relief (BPR) and Agricultural Property Relief (APR).
Historically, these assets could pass IHT free, enabling owners of incorporated and unincorporated trading businesses and farms/agricultural land to pass these on to the next generation without having to worry about funding a tax bill.
This ensured that businesses could continue beyond the death of the previous owner without passing an onerous cost to those who inherited it, and arguably contributed to the stability of the economy.
This relief also applied when qualifying assets were passed into Trust – a common undertaking which allowed the donor to continue to exercise a level of control over the business while ensuring the next generation was able to benefit from the income, enabling a smooth transition during the lifetime of the original owners.
Assuming the proposed changes go ahead (and let’s see what pressure Mr Clarkson and friends exert as we approach Christmas), from April 2026, the relief becomes much less generous.
Rather than being an unlimited relief, only the first £1 million (combined APR/BPR qualifying assets) will pass IHT free, and any balance will be subject to IHT at a reduced rate of 50%, i.e. 20% tax will be payable on death.
We do not know precisely how this will work for trusts – this information should be due in early 2025, but we would assume a similar 50% discount on the usual taxes due on settling the trust and reaching periodic/exit charges.
What will the impact be?
For those with the smallest businesses, i.e. those worth less than £1 million, very little. These will still pass IHT free as the allowance will cover them. However, there are still many family businesses (and farms) where the value is higher and will therefore be subject to IHT when the assets pass.
Taking an example of shares in an unincorporated trading business worth £2 million. Under today’s rules, these would pass IHT free. After 6th April, there will be an IHT liability of £200,000 to pay.
Assuming no changes are made to the way this tax is paid, it will be possible to spread the tax payable over 10 years in equal instalments. This is all well and good and will help with cash flow. However, HMRC will charge interest on this, currently at a rate of 7.5% (2.5% over base). From April 2025, this is set to increase further.
On a practical level, the changes will also necessitate more stringent valuations being obtained on these kinds of assets because it will be much more important, given that there may or may not be tax payable, where there once was not.
On AIM shares, the impact is worse as the £1 million threshold will not apply – see our article about AIM shares.
What can be done about this?
The one saving grace about the changes is that there is time – unlike the changes to Capital Gains Tax (CGT) the change was not immediate, and there is 18 months to consider the options. Some ideas to consider:
Give the Assets away before April 2026
As with any IHT planning, making lifetime gifts is always an option. Providing the donor survives at least 7 years, the value of the gift is ignored for IHT purposes on death. In addition, it is likely that the asset will qualify for gift holdover relief, which avoids and immediate charge to CGT.
However, in doing this, the CGT uplift at death is lost. This could mean a higher CGT bill in future for the recipient. Alternatively, the CGT could be paid, especially if Business Asset Disposal Relief still applies at a relatively low rate on the gain. This will ensure that accumulated gains are not being passed on with higher future CGT rates, likely to apply later.
But, in order to be effective for IHT purposes, the Gift With Benefit of Reservation rules need to be navigated. This means that the enjoyment of the asset must be given up, to prevent it remaining in the donor’s estate at death. I.e. it must be a genuine gift, including giving up control and any future income stream. This may not be practical, and so potentially partial gifts or a restructuring of shares would need to be considered.
Importantly, if the donor passes away within 7 years, IHT will still be due, which will apply at the applicable rates on death.
It may be possible to consider Insurance as a way of guarding against this.
Long term, even if they do survive, the asset remains in the estate of the recipient, and so skipping a generation may be worth considering, depending on how old (and reliable) the next generation may be.
Settle Assets into trust before April 2026
Whilst BPR and APR still provides 100% relief, assets could be settled into trust. This means that there will be no upfront IHT liability, and potentially no immediate CGT liability, as this can be deferred under a hold over election, as above. It also means that once in trust, the asset is also outside of the estate of the recipient (and future recipients), so may be a great long term strategy.
However, this still comes with various downsides – as with an outright gift, the individual settling the asset will not be able to enjoy the asset thereafter, so affordability must be considered and of course the 7-year rule still applies.
Trusts do not escape IHT entirely – instead, under the Relevant Property Regime, the value in the trust will attract IHT every 10 years at a rate (we expect) of up to 3%.
Trusts also pay income tax at higher rates than individuals (although this can be recovered by making income distribution to beneficiaries), and there are administrative costs associated with running trusts and potentially paying trustees.
A cost benefit analysis before going ahead with this is essential.
Restructuring the shares/Partnership
It may still be possible to consider a restructuring of the current shareholding or partnership make up. For example, considering a Family Investment Company (FIC) style arrangement with Growth Shares could enable future growth value to be passed on IHT free, and ensuring that the value of the retained Asset does not continue to grow in value. This may be a particularly useful strategy for growing businesses, especially those which are close to the £1million mark at current values.
Restructuring the Will
In the past, the sensible thing was always to pass the BPR/APR qualifying assets onto the next generation (or into trust) rather to a surviving spouse, to make the most of the relief. Depending on the family’s plans, the reverse strategy may be more sensible for values in excess of £1million. This enables a further gift to be made under one of the above strategies by the surviving spouse, although timing is key and again, it may be possible to consider life insurance against a subsequent liability. Wills therefore need to be reviewed as part of a full planning exercise.
Insurance
In many of the above strategies, insurance plays a part. Even if Life Insurance is already in place, as a result of the changes, this may now need to be revisited.
Next Steps
Every case is different and it is important to take professional advice as soon as you can to see what can be done. Get in touch to book an initial call to discuss your options.
