Business property – keep it in the family

Following on from our previous article on how a property can be retained in the family tax-effectively, we now look at a business property, i.e. a property which is owned by yourselves and used by your business.

We have already considered how useful trusts can be to retaining such a property for the long term benefit of the family. There are various tax issues (and associated reliefs) to consider for a business property.

Property which has been owned by you for at least 2 years and used for business purposes by your company (which you control) or your partnership (where you are one of the partners) will qualify for 50% Business Property Relief (BPR). Hence, if your property is worth £1m then 50% of it, i.e. £500,000 will attract a nil IHT charge. If you subsequently retire from the business or sell it then the property will cease to qualify for this relief. Therefore, you could ‘lock-in’ this 50% BPR whilst it is available by settling such a property under a Trust. Assuming the property is owned jointly by husband-and-wife, and if neither have made any settlements under trust in the previous seven years (i.e. have both their Nil Rate Bands unutilised), then you could settle a business property worth £1.3m without incurring any IHT should you survive for 7 years. If death occurs within 7 years of making the settlement and the property continues to be used for business purposes in that period then you will not incur the IHT charge on death.

An IHT charge occurs every 10 years (at a maximum rate of 6% on the value of the trust’s assets exceeding the prevailing nil rate band) and potentially upon making capital distributions. However, if the property still qualifies for 50% BPR (i.e. it is still used for business purposes by your company or your partnership) then the trust will have no IHT charge at the 10^th anniversary if the value of the property is below £1.3m.

Now, turning to the Residence Nil Rate Band (RNRB) which currently stands at £175,000 per individual. RNRB is applicable if the main residence is cascaded down to lineal descendants and the estate is valued at less than £2m (before applying any reliefs such as Business Property Relief). The RNRB is tapered down by £1 for every £2 that the estate is worth more than the £2m taper threshold. Hence, if your estate is worth more than £2,350,000 then you will have completely lost the RNRB. If you have business property which qualifies for 50% BPR, it still needs to be added to your estate to determine if RNRB will be tapered down. Therefore, by removing such a property from your estate (which can be achieved by settling under a Trust), you can potentially reduce your estate and possibly restore the RNRB.

Settling such a business property under a Trust will be considered a Capital Gains Tax (CGT) event. Assuming you are a higher rate tax payer, then the gain on this property will attract a CGT charge at 20%. You have an option to defer the capital gains tax charge (by claiming holdover relief) until such date in the future when, for example, the property is actually sold by the trust. This presents a significant cashflow saving at the outset. Business Asset Disposal Relief (BADR, and formerly known as Entrepreneurs Relief) may be available (subject to certain conditions) to bring the CGT rate down to 10%. BADR may be restricted if you have been receiving rent from your business for the use of the property.

If you have a mortgage on the business property then you will need to seek consent from your lender to allow you to make this settlement / transfer. Please note that the loan transfer may trigger a Stamp Duty Land Tax charge.  There are also likely to be costs involved.

Once the property has been settled under a Trust, the Trustees can set-up a lease between the Trust and the business, and the rental income can be distributed by the Trust perhaps to grandchildren to fund their school fees. If your grandchildren have no other income and therefore their personal allowances are being wasted, each grandchild can receive up to £12,570 of rental income tax-free.

Through careful planning, you can keep the business property in the family tax-effectively for the long term benefit of the family.