People with assets that qualify for business property relief or agricultural property relief can often save significant amounts of inheritance tax through appropriately structured wills.
Business property relief and agricultural property relief provide valuable relief from inheritance tax for qualifying assets. In some circumstances only one of the reliefs applies, in others they can apply in tandem. What is less well known is that, where relief applies, the structure of your will can make a significant difference to the total relief available and the inheritance tax liability on your death.
What is business property relief?
Business property relief provides relief from inheritance tax for “relevant business property”. Depending on the circumstances, the entire value of the relevant business property may be shielded from inheritance tax or the rate of relief may be lower. The criteria for business property relief are very complex. You will need to take professional advice on whether you qualify and how best to structure your interests so as to maximise the available reliefs.
What is agricultural property relief?
Agricultural property relief provides tax relief for “agricultural property”. The conditions for relief are different to business property relief, but again it can either shield the entire value from inheritance tax or a lesser value. Again, the conditions for relief are very complex and you should take professional advice.
Clients with relievable assets such as a business or a farm, also need to consider the risk of the reliefs being withdrawn or curtailed in the future if there is a change in the law or in their circumstances. The current business property relief and agricultural property relief regime is relatively generous compared with the recent past. It cannot be assumed that the reliefs will always remain in their present form.
Discretionary Will Trust to maximise reliefs
An appropriately structured will can help protect reliefs, as well as opening up opportunities to maximise the available reliefs. For example, clients with relievable assets may be able to protect the reliefs by leaving those assets to a discretionary will trust. These will often be particularly useful for married clients because any assets they leave to their spouse will be fully protected from inheritance tax anyway, due to the spouse exemption. This assumes the spouse is UK domiciled: the rules are more complex for non UK-domiciled clients. This means the other available reliefs on assets they leave to their spouse will effectively be wasted. The trust avoids this, as well as opening up opportunities for ongoing inheritance tax planning.
A discretionary will trust is an arrangement whereby trustees are appointed with discretion to decide who, from the specified class of beneficiaries, should benefit and when. The surviving spouse can be included in the class of beneficiaries and can also act as one of the trustees. Hence the spouse can still benefit from the assets if required at the discretion of the trustees, but the assets are kept outside of their estate for inheritance tax. Depending on the circumstances, there may be inheritance tax charges within the trust, however these will generally be much lower than the equivalent charges that would arise, if the assets were in the estate of the surviving spouse.
The examples below show some of the situations in which significant inheritance tax can be saved. Please note: references to married couples include civil partners. It is assumed that all clients in the examples are UK domiciled. For non-UK domiciles there are some additional issues to consider. The article considers will planning, however there are also lifetime planning issues that clients should consider with a specialist adviser.
Using a discretionary will trust on the death of the first spouse to die, can prevent valuable reliefs from being lost, if there is a subsequent change in circumstances, before the death of the survivor, for example, if the eligibility rules for the reliefs change or if the relievable assets are sold.
Preserving reliefs - example 1: Margery and her husband, Jake, ran a successful furniture business, which they owned in equal shares. Neither of them made any lifetime gifts. On Margery’s death in 2012, she left all her shares in the business (then worth £1 million and which would qualify for 100% business property relief) to Jake. Shortly after Margery’s death, Jake decides to sell the business and retire. By the time of Jake’s death in 2021, the shares he inherited from Margery are held in an investment portfolio and are worth £1.5 million. His other assets exceed all the available inheritance tax nil rate bands, and he leaves everything to their children, Ben and Nigel.
The investment portfolio increases the inheritance tax exposure on Jake’s death by 40% of £1.5 million = £600,000.
Preserving reliefs - example 2: The facts are the same as in example 1 except that Margery leaves her shares in the business to a discretionary will trust and appoints Jake, Ben and Nigel as trustees. Shortly after Jake’s death, the surviving trustees (Ben and Nigel) decide to wind up the trust and appoint the trust fund (comprising the investment portfolio mentioned above) between themselves and their respective children: this appointment takes place later in 2021. There will now be no inheritance tax on the investment portfolio on Jake’s death. There would be a much lower inheritance tax charge on the trust when it is wound up and some capital gains tax issues to consider. However, a very considerable tax saving would have been achieved.
Maximising relief on your home
The residence nil rate band is an additional relief from inheritance tax where the home is left to qualifying beneficiaries. However, this relief starts to be reduced when your estate exceeds £2 million and assets qualifying for business property relief and agricultural property relief are included in working out whether this reduction applies. For some clients, using an appropriately worded trust on the first death can reduce or even eliminate this clawback.
Maximising relief on your home - example 3: Richard owns shares in a limited company business worth £2 million, the entire value of which qualifies for business property relief and other assets worth £800,000. His wife Clare is retired and has an estate worth £400,000, none of which qualifies for either business property relief or agricultural property relief. The estate values above include their home worth £600,000, which they own in equal shares. Neither of them has made any lifetime gifts.
On Richard’s death in 2016 he leaves all his assets to Clare. Clare dies in 2021 and still owns the business shares (which still qualify for business property relief). Clare’s estate is above the threshold at which the residence nil rate band is reduced to zero, so this will not be available to her executors.
Maximising relief on your home - example 4: The facts are the same as example 3 except that Richard leaves the shares to a discretionary will trust and the rest of his estate to Clare. The shares remain in the will trust at her death.
Clare’s estate (including the assets inherited from Richard) is now worth £1.5 million (assuming growth of £300,000 in the period between Richard and Clare’s deaths). As this is below the £2million clawback threshold, Clare’s executors will be able to claim residence nil rate band (including a transferable residence nil rate band from Richard’s estate). The total residence nil rate band will be £350,000, saving inheritance tax of £140,000!
Further tax planning opportunities after the death of first spouse
Using an appropriate will structure on the first death, can create opportunities for further inheritance tax planning after the death of the first spouse, in appropriate circumstances.
Example 5: Paul and Jenny are married and in a farming partnership along with their daughter, Gill. Their combined estate (which is divided evenly between them) is worth approx. £7 million and comprises their partnership share (worth £4 million), which attracts 100% business property relief and agricultural property relief and other non-relievable assets worth £3 million.
Paul dies in 2015 and leaves his entire estate to Jenny. Jenny dies in 2021 and leaves the farm to Gill and the non-farming assets to their other daughter Karen. For ease of reference assume no change in asset values between Paul and Jenny’s deaths. Neither of them has made any lifetime gifts. The inheritance tax liability on Jenny’s death will be approximately £940,000.
Example 6: The facts are the same as example 5 except that Paul leaves his assets qualifying for business property relief and agricultural property relief to a discretionary will trust and the rest of his assets on a life interest trust, under which Jenny has a right to the income.
This will structure opens up the possibility of making further use of the business property relief and agricultural property relief available to Paul’s estate. For example, the trustees of the life interest trust might agree with the trustees of the discretionary trust to purchase some of the assets qualifying for business reliefs. This would have potential capital gains tax and stamp duty consequences which would need to be considered.
Assume for the example that, shortly after Paul’s death, the discretionary will trust acquired assets attracting business property relief and agricultural property relief from the life interest trust totalling £1million, in exchange for non-relievable assets of the same value. Effectively the business property relief and agricultural property relief on these assets would then be used twice (on Paul’s death and again on Jenny’s death, providing Jenny survives the exchange of assets by at least two years). This would reduce the inheritance tax liability on Jenny’s death to approximately £540,000 saving approximately £400,000.
Complex tax and legal issues
Trusts are themselves potentially subject to inheritance tax charges at ten yearly intervals and on winding up. There would also be capital gains tax and stamp duty consequences of some of the actions above, which would need to be considered in advance. These would need to be balanced against the tax savings, although in many circumstances they will be much lower than the tax savings achieved. There are also income tax issues to consider. You also need to be comfortable giving the trustees’ discretion about what to do, rather than leaving assets to the intended beneficiaries outright and for this reason your choice of trustees is very important. This is a complex area of law and expert legal and tax advice should always be sought. However, significant tax savings can be achieved in the right circumstances.
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