The future of the family business – Extracting funds to pay Inheritance Tax

From 6 April 2026, a family business may be subject to Inheritance Tax (IHT) for the first time. Consideration of how this additional tax liability is financed is therefore required. 

Inheritance tax payments

Typically, IHT is due for payment within 6 months of the end of the month in which a person has died. Interest will be charged on late payments, the current rate being 8.25%.

IHT can be paid by 10 equal instalments on certain illiquid assets such as buildings, land and business interests. The first instalment is payable within 6 months of the end of the month in which the person died. Subsequent payments will be due annually each year. Interest is typically chargeable on the outstanding balance being paid by instalments.

Financing options

Once the level of IHT due has been assessed it will need to be determined how this liability will be settled.  Examples could include:

1. Dividends

Where a company has sufficient distributable reserves, dividends can provide a straightforward method of profit extraction.

Executors receiving dividends can be used to finance the IHT liability associated with the shareholding.

An Income Tax rate of 8.75% will be payable by the Executors on any dividends received. Therefore, a grossing up of the divided being paid will need to be considered to ensure sufficient cash is available to fund both the income tax and IHT liabilities.

Other considerations are also required including:

• Whether the company holds sufficient cash to pay a dividend; 
• The potential income tax consequences on other shareholders if they hold the same class of shares; 
• The decision to pay a dividend rests with the directors of the company opposed to the shareholders.

2. Company Purchase of Own Shares

A company may buy back its own shares from shareholders, offering a lump sum payment to the estate. The company must have distributable reserves to do so.

The default position is that the lump sum will be subject to Income Tax, effectively treated as dividend. However, if the transaction meets certain conditions, it may instead qualify for Capital Gains Tax (CGT) treatment, which is typically more favourable. These conditions include:

• The whole or substantially the whole of the purchase money is applied by the recipient in paying IHT; 
• IHT was charged on a death; 
• The payment received from the company is applied in discharge of the tax liability within two years after the death; and 
• The tax paid could not otherwise have been paid without undue hardship

Undue hardship is a subjective term, it will be unclear whether these provisions will look at the wider assets held within an individual’s estate and to what extent.

A set legal process needs to be adopted to ensure that the buy back of shares is effective.  The cost of this therefore needs to be considered as part of the overall strategy.  Further, once the company has brought back the shares the Executor or beneficiary of the asset will no longer hold those shares.  If the expectation is that the family will continue to have an interest in the company longer-term this option may not be viable.

3. Sale or liquidation

In some cases, the business will not be able to continue. A sale of the business or the liquidation of the company may be the most effective way to extract value.

In the event of death, the acquisition cost of an individual’s assets is “rebased” to the probate value (market value) for CGT purposes. If an interest in the business is sold or liquidated for the same value no CGT should be payable, subject to anti-avoidance rules.

However, additional consideration of the liquidation process will be required. Whilst an individual’s shareholding is rebased for CGT purposes, this does not apply to the underlying assets of the company. 

Upon liquidation, the company’s assets are sold and the proceeds distributed to shareholders after debts are settled. The sale of these assets may result in taxable profits being generated and result in additional corporation tax charges.  

4. Loans to shareholders

Where a company has surplus cash, it may lend funds to shareholders. This will enable the Executors to use these funds to settle the IHT liability.

While this does not constitute a taxable distribution at the outset, it may trigger tax charges if not repaid within a specified timeframe including an temporary tax charge of 33.75% on the balance of the loan if not repaid within nine months of the year-end. This temporary tax charge can be reclaimed after the loan is repaid.

This route can offer short-term liquidity but must be managed carefully to avoid punitive tax consequences.

Summary

These options provide a brief outline of some considerations associated with the extraction of funds from a company. Each route carries its own tax implications and practical considerations, so tailored advice is essential.

Further considerations may be required where an individual, or their family, do not have control over the business. Difficulties may arise where a minority interest is held and the desired extraction of funds does not align with the strategic business objectives of the directors of the company or other shareholders. This may be particularly prevalent for businesses that have a low level of liquidity and/or a high value attributable illiquid assets within the business.

This article is part of a series exploring the changes to Business Property Relief and Agricultural Property Relief. This series covers the key issues that may arise for business owners after the introduction of these rules on 6 April 2026. Our lead article can be found here.

Should you be concerned about the proposed IHT changes and the impact they will have on your business, it is recommended you seek advice as soon as possible. Please do not hesitate to get in touch with a member of our expert team.