According to the latest figures published by the Department for Business, Energy and Industrial Strategy there were 5.5 million businesses in the UK at the start of 2022.
Of these businesses, the vast majority (5.47 million) were small businesses with 0 to 49 employees, and 4.1 million had no employees whatsoever. Those 4.1 million sole traders are the people who need to think about the way in which Business Property Relief (BPR) could help them to cut any Inheritance Tax (IHT) bill they might otherwise find themselves hit with.
How Inheritance Tax works
In simple terms, IHT is charged at 40% on the value of estates over £325,000, which becomes £650,000 for a couple who are married or in a registered civil partnership. Anyone with an estate which is likely to be impacted by IHT is able to make use of a number of reliefs including the Residence Nil-Rate Band (RNRB), which means that a residence passed on to a direct descendant is exempt from IHT up to a value of £175,000.
When combined with the spousal relief, this can mean that an estate worth £1 million is ultimately able to be passed on by a surviving spouse without IHT having to be paid. Other tips for avoiding or minimising IHT include gifting as much as £3,000 per tax year and, most recently, with the abolition of the lifetime allowance for pensions, putting as much money as possible into a pension pot which can then be passed on.
Business Property Relief
If you’re a sole trader with a business then BPR could offer another relatively simple means of reducing or eliminating any potential IHT bill your family will be facing following your death.
The amount by which BPR can reduce the taxable value of business assets varies between 50% and 100% depending upon the nature of the asset in question and the way in which it is used. There are some qualifying hoops which need to be jumped through. The assets in question need to have been owned for two years prior to BPR being claimed, and the percentages of relief which can be claimed are as follows:
- For a business or an interest in a business the rate is 100%
- For shares in an unlisted company which give the holder of those shares control of the company the rate is 100%
- For other shares in an unlisted company the rate is 100%
- For shares in a company listed on the Stock Exchange which give the holder of those shares control of the company the rate is 50%
- For land, buildings or machinery which was owned by the deceased as part of a business which they controlled or were a partner in the rate is 50%
- For land, buildings or machinery which was used in the business and is held in a trust which the business has the right to benefit from the rate is 50%
One additional caveat is that BPR is designed to assist ‘trading’ businesses rather than ‘investment’ businesses. This means, for example, that businesses which base more than 50% of their activities in sectors such as property investment, land ownership, buildings or stocks and shares will not qualify for BPR. There is some wriggle room, in as much as property or land would normally be viewed as an investment asset, but if the property in question is used for office or factory purposes then this should see it being classed as a trading asset.
In most cases, BPR is something that will be claimed by the executors of a Will when the details of the estate are compiled and submitted to HMRC as part of the process of seeking a grant of Probate. The best course of action, however, is to take as much care as possible when drafting your Will, and do so in a manner which enables the business and its assets to be owned and arranged so as to maximise the benefit of BPR.
For example, many sole traders may be tempted to sell shares in their business to their children in order to pass on ownership. In this case, however, the money paid for the shares will become part of your estate and therefore possibly liable to 40% IHT after your death.
If the business qualifies for BPR, on the other hand, and you leave it to your children in your Will, the same value becomes liable for BPR and thus exempt from IHT.
One thing to look out for is the amount of cash held in the business without being spent or withdrawn as income. HMRC are likely to regard a business which holds more than 20% of its balance sheet in the form of cash with a degree of suspicion, and the cash in question could well become an ‘excepted asset’ and thus liable for IHT. For that reason, piling money into the business in order to claim BPR on that business and avoid IHT is not to be advised.
One other method of taking advantage of BPR, even if you don’t own or run a business yourself, is to invest in a business run by your children. If you buy shares in their business then your child has the money they need to invest in and expand the business, and the shares that you now own will, after they’ve been owned for two years, be eligible for BPR and thus placed outside IHT. The same would apply to money invested in other businesses, if the shares are then held for two years.
As with any kind of estate planning, the safest option when it comes to BPR is to consult with expert legal and tax advisors when drawing up your will or structuring your business. The right kind of advice could help you and your family to save substantial sums of money on your death and pass your business on intact to future generations.
