Business Property Relief – Leaving a Business in your Will
Chris Broome – Chartered Financial Planner
Aside from the family home, shares in the family business can be one of the most valuable assets that a testator has. But leaving these shares in your Will is not as straightforward as you might imagine.
The way you leave business property, and who you leave it to, is influenced by a number of factors, including the availability of Business Property Relief.
Business Property Relief
Business Property Relief (BPR) is available for some types of business property that has been owned for at least 2 years. The relief is 100% for:
- a business or an interest in a business (including a partnership share);
- company shares that are not listed on a recognised stock exchange (AIM is not included in the definition of stock exchange for these purposes).
The relief is 50% for:
- company shares that are listed on a recognised stock exchange if the transferor had voting control of the company immediately before the transfer;
- land, buildings, machinery or plant owned by the transferor personally but used for business purposes by a partnership of which he is a member, or by a company (whether quoted or unquoted) of which he has voting control.
To be eligible for BPR, the business assets must have been owned for a minimum of two years at the time of the transfer. However, if the asset was inherited from a spouse or civil partner, the surviving spouse/civil partner is deemed to have owned the property from the date it was originally acquired by the deceased spouse/civil partner.
In addition, to qualify for BPR, the asset cannot be excluded property. Excluded property includes, amongst other things, investment businesses which wholly or mainly:
- deal in securities, stocks or shares
- deal in land or buildings; or
- make or hold investments.
If you gift your business assets during your lifetime and then die within 7 years of making the gift, Business Property Relief (BPR) will only be available if the recipient keeps the business assets as a going concern until your death.
They can replace the property or assets (such as machinery) with something of equal value for use in the business, but they cannot dispose of it altogether. If they do, BPR will be lost and the value will fall into your estate for Inheritance Tax purposes (this is at a tapered rate if you die within 3 – 7 years of making the gift).
Further, whether you gift or sell your shares during your lifetime, Capital Gains tax will be payable. In many cases Entrepreneur’s Relief puts this at a modest 10% (and in addition you have your annual CGT allowance).
However, keep in mind that if you keep the shares and allow them to pass under your Will, no CGT would be payable – in fact, there would have been an uplift in the capital gains tax base cost to market value at death (i.e. your beneficiaries would be deemed to have acquired them at their value on your death).
It is essential that you speak to an accountant about your individual tax circumstances before making any decisions.
Type of business
The way you leave business property will also be influenced by the type of business you have (sole trader, partnership, limited company) and any restrictions on the transmission of your share.
You also need to consider whether you want to give your beneficiaries an income from the business assets or have them take over the business; and in the case of the latter, which of your potential beneficiaries are capable and a good fit for the role.
Whilst some beneficiaries might be eager to play apart in the family business, they may lack the necessary skills, experience or even personality to take the company forward.
In some respects, leaving a sole trader business in your Will is quite simple. You are the only owner, so there are no restrictions on who you can gift it to.
Your sole trader business may include the tangible assets (for example, premises, equipment, stock, vehicles) and the intangible asset of goodwill. However, some sole trader businesses are fundamentally ‘you’. People deal with you for your particular set of skills or reputation.
When we take you out of the equation, there is no business. Whilst Business Property Relief will therefore be available, the business may have little if any saleable value, above that of its physical assets. If this describes your own business, now could be a good time to consider whether you can build more of a brand that isn’t simply about your skills as an individual.
Of course, this is not always the case. Sole trader businesses which have built up assets and a regular client base which do not depend on the individual specific skills of one person can certainly have a value. In such cases, you need to consider how the business will continue when you are gone. For example:
- If the business has trusted employees, these might be appointed special executors of the business asset. They can continue to work for the business after your death, effectively preserving the value of the business, allowing them to keep their job and providing an income for other beneficiaries.
- If it has no such employees, careful thought must be given to who might run it in the future. If there is to be more than one beneficiary, it is unlikely a single beneficiary will be happy to take on the burden of running it day-to-day if the others benefit from the income but have no such responsibility. The working beneficiary might be incentivised with a greater share, or the non-working beneficiaries might be compensated with additional assets.
- If one beneficiary in particular is keen to take on the business – perhaps because he or she is already playing a role in it – they might be given the option of notionally buying out the ‘share’ of the other beneficiaries. If funds are likely to be an issue, this could be by instalments based on the projected income of the business.
- If your business includes digital assets, consider our digital assets article which provides guidance on passing these on.
- If you intend to leave the business to your spouse or civil partner, consider using a trust to maximise the availability of Business Property Relief (see below).
As you can see, whilst sole trader businesses present the least ‘red tape’ in terms of gifting on death, there are more practical considerations to go through.
A crucial point to make at the outset with partnerships is that if there is no partnership agreement (i.e. a ‘partnership at will’), the partnership will dissolve on the death of one of the partners. This is rarely desirable and a partnership agreement is therefore essential.
The agreement will provide that the partnership continues after the death of a partner and typically will provide options for the surviving partners to purchase the deceased’s share. In addition, it will usually provide mechanisms for the share to be valued and for payment to be made to the deceased’s beneficiaries (e.g. by instalments to ensure the partnership can continue to trade).
This helps the surviving partners retain control of the business, and assists bereaved family members who would prefer to receive cash rather than a share anyway. Such an agreement can be used in conjunction with a life insurance policy to ensure that the other partners have the funds to purchase the share.
An important consideration here is the wording of the partnership agreement. In some circumstances, your retirement or death will cause your interest in the partnership to cease. An example of this is where your partnership agreement provides that when a partner retires or dies, the continuing partners will buy him/her out and the retiring partner or his/her PRs will sell the share.
Known as a ‘buy and sell’ agreement, this is different from there being an option to sell or purchase. With a buy and sell agreement, the interest (once triggered – by retirement or death) is in the proceeds of sale rather than the business property. Since cash is not relevant business property, Business Property Relief will not be available. This issue can be avoided by using an option to sell/buy in the Partnership Agreement.
Aside from ensuring that the partnership has an agreement with suitable terms, the main consideration for those with partnership shares will be maximising the availability of Business Property Relief, particularly if leaving their share to a spouse (see below).
Typically the procedure when a shareholder dies will be contained in the documents of the Company. These may contain restrictions on who the shares may be gifted to. For example, they might specify that the other shareholders have an option to purchase the Deceased’s shares.
It’s important to check that company documentation does not create a situation where your retirement or death causes your interest in the business property to cease. An example of this is where a Shareholder’s Agreement provides that on your death, your PRs will sell the company shares to the remaining shareholders who will buy them (again, a ‘buy and sell’ agreement which may be contrasted with an option to sell/buy).
With such terms, retirement or death will mean that your interest is in the proceeds of sale rather than the business property. Cash is not relevant business property, and therefore Business Property Relief will not be available. Again, this issue can be avoided by using an option to sell/buy in the Shareholder Agreement which can be supported by a life insurance policy.
In the absence of restrictions as to transfer in the company’s documentation, you may decide to gift your shares within the family and you will have to decide which beneficiaries might be the best recipients for your business interest. If you want the business to continue, thought must again be given to what contribution each beneficiary might make to the business.
Some might immediately seek to sell their share and realise the value of their inheritance; whilst others will look to step into your shoes and continue to grow their legacy. Whilst this will undoubtedly influence your choice of beneficiary, it may result in difficult choices if your remaining estate is not sufficiently large to compensate the other hopeful beneficiaries. One option is to give one beneficiary the option to buy out the other beneficiaries’ notional shares, perhaps by instalments.
A further consideration is that dividing the business interest between beneficiaries may alter control – particularly if there are already other shareholders. This might be another reason to leave the business to a single beneficiary and compensate other hopeful beneficiaries with alternative assets. However, consider that this beneficiary may feel rather disgruntled if the business takes a downturn. Equally, the other beneficiaries may feel hard done by if the business is an outstanding success.
If you own 100% of the business, you might decide to split your share equally between your children. However, if you have an even number of children who cannot agree over particular matters, this simply creates a stalemate which will be unworkable. You will need to consider a mechanism for decisions to be made should this happen.
You may also think about transferring some of your shares prior to death. As noted above, BPR will still be available in relation to such transfers, provided that the recipient keeps the shares up until your death.
There are of course Capital Gains Tax implications as mentioned above. However, transferring them prior to your death may give you the opportunity to bring one or more of the ultimate beneficiaries into the business and to train/mentor/motivate them before they fully take the reins. Make sure you consider how the partial transfer affects control amongst the remaining shareholders.
Finally, if you decide to leave your share to your spouse or civil partner, using a trust can help maximise the availability of Business Property Relief (see below).
Valuing your share
If you are considering leaving the business assets to one beneficiary whilst compensating other hopefuls with non-business assets, you will need to know what the share is worth. There is no single correct way to value a company and valuations are subjective – a company is only worth what someone is willing to pay for it.
Keep in mind that if the valuer overvalues your business (whilst this might stoke your ego for a while) it could mean your estate will pay more IHT where BPR is not available. Get a realistic valuation and if you suspect overvaluation, get another. You will also need to consider that the value of the business may rise or fall in the future, and the compensation provided for other beneficiaries may therefore be disproportionate.
It is also worth leaving some guidance for your executors on obtaining valuations when you die. Valuing a business is not a job for a solicitor. An accountant is a better choice, or a industry specialist. In any event, your executors should always seek a fixed fee agreement for the valuation rather than a percentage of the value.
Otherwise, the valuer is likely to be generous and this will cost the estate in Inheritance Tax. A further point to note is to avoid asking for a ‘probate valuation’ as this can inflate the charges.
Leaving your share of the business in trust
Another option to consider is using a discretionary trust to hold your business interest on your death. Such a trust can be a huge advantage where your intended beneficiary is your spouse or civil partner. If you leave the share directly to them, it will be covered by the spouse exemption.
However, if they then sell the asset, any unspent cash proceeds will fall into their estate for Inheritance Tax purposes. Further, the proceeds will be exposed to care fees, creditors and even remarriage. They can be quickly used up or pass sideways out of the family, ultimately benefiting someone else’s children or grandchildren.
If instead you establish a discretionary trust containing all assets that qualify for Business Property Relief, the cash proceeds of sale will be held by the trust instead of falling into the surviving spouse’s estate. A letter of wishes can be drafted specifying that the spouse will be the main beneficiary during their lifetime.
After their death, the assets of the trust can be distributed according to your wishes, or they can remain in the trust to protect the interests of other beneficiaries if necessary.
Discretionary trusts can also help deal with change. Even if you plan to leave your business shares to one or more of your children, it is difficult to know what each of your beneficiaries’ circumstances will be at the time of your death.
The trust allows the trustees to decide what is best for the business when you die. Your trustees can select from a number of potential beneficiaries, the most appropriate to inherit or alternatively, they can sell the business interest and appoint out the cash if it more appropriate to do so.
Please note: This article is for general information only and does not constitute advice.