Introduction
Last Thursday, ETC Tax welcomed 70 professionals to its first annual tax conference at Mere Golf and Spa Resort.
The conference, built around the theme of Succession (a poorly concealed doffing of a Kendal Roy style baseball cap to the eponymous HBO series ) started with networking and a curry. Not a bad start.
The 'WayStar RoyCos of the show
The conference was opened by Bernard Kelly. He told the attendees how he bought Benson for Beds as a turnaround in 1984. He built the company up from 8 to 140 stores before selling it to a public company. He is now the Chairman of Biramis business advisers.
Andy Wood started formal proceedings with a session on passing on the business to employees with a particular emphasis on Employee Ownership Trusts. Although this might be a useful tool for some clients, Andy highlighted some of the very real issues through his Willy Wonka case study (the first of the two great chocolatiers to dominate the day).
Second, up to the oche was Zeeshan Khilji who have an energy-filled overview of the tax considerations when one is looking to sell the business to a third party purchaser. Zeeshan, who in a recent public confessional, revealed his passion for demergers did not disappoint here!
Jon Davage, Head of a corporate at Bermans, joined us for a Q&A panel discussion on these two topics and explained his view of the current market conditions.
After a short break for coffee and more networking, it was the turn of Alexander Wilson to provide an overview of some of the tax and non-tax considerations when thinking about transferring the business to the family. He looked at the use of structures including trusts and family investment companies.
This was followed by another panel discussion where Harry Plunkett of Canaccord Genuity joined Alex and Andy.
After networking and drinks, we then moved into the relaxed, evening event.
Here, Jo Fairley the co-founder of Green and Blacks chocolate provided an informative and entertaining review of her career to date.
Following dinner, we drew the raffle winners, raising a total of £700 for Just Drop In.
Conclusion
A great event and a massive thanks to Sarah Aston and the team for bringing this together. Well done and look forward to next year!
Traditionally the vehicle of choice for family wealth preservation has been a trust. However successive governments have reduced their tax benefits. This led to a rise in debate about the benefits of using a family limited partnership instead. Although many advisers talked about these partnerships, comparatively few had clients who implemented them. Their relative lack of popularity may have been due to concerns about collective investment scheme legalisation and the professional costs of their maintenance. An alternative could be a Family Investment Company.
A Family Investment Company (FIC) is a UK resident private company whose shareholders are almost invariably entirely made up of family members. Assets are transferred into the FIC and those assets generate investment returns which can be used to provide family wealth. Alternatively, returns can be directed to be used for things such as payment of school fees.
With the UK having a corporation tax rate of just 19%, interest in family investment companies has risen. They are typically used to spread wealth throughout the family or as inheritance tax efficient vehicles. As they are structured around UK companies, the foundations on which they are built are well understood, easy to implement and have low annual compliance costs.
Typically the founders transfer cash into the company in exchange for shares and loans. Non-cash assets such as property can be also transferred into the company but this may lead to stamp duty land tax or capital gains tax concerns.
The founder can then gift shares of the company to other family members as a potentially exempt transfer. There would be no inheritance tax consequences on the donor if they survive seven years following the date of the gift. Assuming that the gift occurs soon after creation of the company then there are no capital gains tax concerns for the donor.
It is common for the Articles of the company to be drafted so that the donor retains control over the company and this is where the company can operate like a trust. One of the advantages of a FIC over a trust is that some people feel they have more direct control through share ownership than the less tangible control that they have over trust assets.
If the FIC generates rental or interest income then this will be taxable at the low UK corporate rate of tax. Dividends received by the FIC could be tax free.
There is tax payable on distribution of assets out of the company. However with the first five thousand pounds of dividend being tax free and a follow on rate starting at 7.5% this may not be a concern. Even the highest rate of dividend tax is lower than the 45% rate currently applied to trusts.
A FIC should be considered a medium to long term strategy in the same way as a trust is considered a long term strategy tool.
As a FIC is based on a UK company there are Companies House filing requirements, including annual accounts which will be on public record. If this is of concern, then in certain circumstances it is possible to provide reduced disclosure or one may opt for an unlimited as opposed to a limited company.
It may be felt a reflection of the UK government’s strategy on low corporate taxation that a UK company, for the benefit of UK individuals, may be an appropriate, low risk and tax efficient holding vehicle.
A FIC should be considered a medium to long term strategy in the same way as a trust is considered a long term strategy tool.
For further advice please do not hesitate to contact our team of family investment company advisers.
If one follows the direction of the winds on Family Investment Companies (“FICs”), then one might have got the following feeling from various commentators:
Of course, neither of these views is true. A FIC is neither sliced bread nor is it Lucifer’s spawn.
Spawn on toast, perhaps?
It appeared that FICs were under the spotlight following an article that appeared in the FT in late 2019 /early 2020 which said that HMRC were setting up a special unit to review the use of FICs.
I understand that this information was uncovered following a Freedom of Information request asking whether HMRC were looking at these vehicles. Of course, the answer was in the affirmative and they confirmed the existence of this team (which HMRC’s notes show was established in April 2019).
Of course, the increasing use of FICS since 2006 means that HMRC MUST have been monitoring the use of FICs. My view is it would be a dereliction of duty if they were not!
I may be burnt at the stake for this, but there is nothing particularly special about a FIC.
It is simply a company… managed and controlled by a family.
Now, like the DNA of any Company, it can be as a simple or complex as desired.
They are generally used for estate planning.
Clearly, if one wants to simply and effectively reduce one’s estate then one can give away one’s assets and, as long as survive by 7 years (PET), then no IHT.
But often people want to reduce the value of their estate, but do not want to give up complete control of the asset. So, whether talking FICs, trusts or family partnerships one is usually looking at giving assets away but retaining control over the capital.
In this regard, FICs have become popular for two tax reasons:
In themselves, are FICs vectors of tax avoidance? My view is no.
Could you create a FIC that HMRC found objectionable? Well, conceivably, yes. If you create a FIC with complex, dare I say it artificial, share rights then you potentially could.
For further information on FICS please see our video on this type of structure.
It was revealed in the notes of HMRC’s Wealth External Forum held on 13 May 2021 that HMRC had pulled the plug on their research and the team had been ‘subsumed into WMBC’ and that ‘FICs are now looked at as business as usual’.
HMRC found, as part of their research, that “there was no evidence to suggest that there was a correlation between those who establish a FIC structure and non-compliant behaviours’ and no evidence that FIC users were ‘more inclined towards avoidance’.
It must be said, more generally, that is refreshing to see HMRC draw a distinction between ‘mitigation’ and ‘avoidance’.
There are already plans afoot which will certainly impact the attractions of a FIC in the form of:
Corporation tax rates and a CIHC in the teeth
Firstly, the main rate of corporation tax is scheduled to increase from 19% to 25% with effect from April 2023.
In addition, we have the return of a small companies rate and a marginal rate of tax. The new small profits rate of 19% will apply for companies with profits of less than £50,000.
Companies with profits above this threshold will be subject to the increased rate of 25% with the introduction of marginal relief (essentially a 26.5% rate) for profits between £50,000 and £250,000.
These thresholds are to be reduced proportionately for the number of associated companies and for short accounting periods.
Clearly, for FICS gobbling up dividends from equity portfolios then this is not likely to be a problem. However, for other asset class holders, this will have some impact on the returns within the Company.
In a further wrinkle, those with an interest in FICs should note that the small profits rate will not apply to close investment-holding companies (CIHC). A term dredged up from the past.
In broad terms, a company will be a CIHC if it is owned by five or fewer shareholders and does not exist wholly or mainly for the purpose of trading commercially or investing in land for letting to an unconnected party.
So, where the FIC is not invested in equities or letting property, it is likely that they will need to consider whether they are taxable at 25% on their full profits.
Office for Tax Maximisation report
The Office for Tax Simplification in its first report on CGT also, and perhaps beyond the call of duty, flagged that FICS might also need to be addressed as part of any reform, as I pointed out in my article in November last year.
The OTS noted:
“Such family investment companies can offer a range of tax advantages”
As I mentioned at the time, I assume that the use of ‘tax advantage’ was intended in a natural sense rather than the technical sense, a gateway through which one usually has to pass through for anti-avoidance rules to bite.
This because the tax consequences of holding assets or performing activity through a company, in itself, is not tax avoidance. Even if in a family context.
Indeed, it seems that HMRC’s comments on FICs supports my view.
We are told in that same report, somewhat emotively, they are used for ‘funnelling’ value in to shares held by children. Of course, value can be ‘funnelled’ into the hands of children using partnerships, LLPs or, indeed, through the classic trust.
The OTS CGT review acknowledges, currently, there is no real CGT benefit in using a FIC.
However, it states that if the rate of CGT is aligned with income tax then the FIC will provide an incentive to use a FIC to gain a tax advantage. Of course, this report was ahead of the changes to corporation tax I have flagged above. Do the forthcoming changes represent enough of a narrowing of the tax rates for the OTS’ liking?
Or does the OTS CGT review flag that the fate of FICs and potential reforms of the CGT regime will be entwined and that changes to CGT would require another look at FICs?
What this illustrates, if nothing else, is that tax changes in one part of the ‘ecosystem’ will create a change in behaviour elsewhere.
Tax’s very own version of the butterfly effect.
In conclusion, FICs aren’t the answer to all of your tax problems but they can continue to play a role. As such, nothing at all has changed over the last few years.
However, change is probably the watchword here.
As with any UK tax planning, one must prepare for the ‘c’ word. This is especially the case with estate and tax planning. For planning that might be around for decades, the only thing that can be guaranteed, is the legislative tax framework will be different. As such, there is inherent danger in locking up assets in a structure that cannot be flexed easily and efficiently.
FICk the bones out that one.
If you have any queries about this article, Family Investment Companies, or tax matters in general then please get in touch.
Family investment companies are an increasingly popular vehicle for holding investments.
A family investment company is, simply, a company established to hold the investments of a family, the members of whom may hold shares in the company, either directly, or indirectly as the beneficiaries of a family trust.
| [FOR MORE INFORMATION SEE OUR DETAILED PAGES ON FAMILY INVESTMENT COMPANIES] |
We set out below five reasons to consider a family investment company.
The rates applying are lower than income tax. While income tax can be charge at up to 45%, corporation tax is charged at 19%. Therefore, there is a significant advantage if the intention is to retain funds within the company and reinvest.
Moreover, certain receipts are corporation tax-free. While interest income and rents are subject to corporation tax, dividends are not. A family investment company which holds a portfolio of equities will therefore be able to realise the income tax-free.
Family investment companies can obtain relief for interest paid. This is especially relevant for those who would like to invest into property since from 6 April 2020 onwards, relief for interest payments to acquire residential properties are limited to a basic rate tax credit. The result is that higher and additional rate taxpayers will not be able to benefit from full tax relief for the interest costs incurred.
These limitations do not apply to companies and therefore a family investment company building a buy to let portfolio will be able to obtain relief for its interest costs in full.
Interest can also be deducted for the purpose of purchasing other investments too.
Relief is available for expenses incurred in managing the company’s investments and running its business. This includes investment management fees. In contrast, individuals are not eligible to claim tax relief on the expenses of managing investment portfolios.
A company may also be able to claim a deduction for salaries and pension contributions paid to or on behalf of the employees or directors of the company.
While the value of the shares are within the holder’s estate, it may be possible if a new vehicle is established to create a class of shares which has limited current value and which can easily be given away.
When the company is incorporated, shares can be gifted to family members without incurring any immediate tax charges on the basis that they have little or no value at the date of incorporation.
Should the donor continue to hold shares in the family investment company at the date of death, the value of those shares will be discounted to reflect the size of the shareholding and restrictions imposed in the articles and any shareholder agreement on the sale of those shares. The discount might be substantial meaning that the value remaining in their estate is significantly less than the percentage shareholding.
If the family investment company was funded by way of loan, that loan will remain within the founding shareholder’s estate for inheritance tax purposes. However, they could consider gifting that loan to other family members allowing them to receive tax-free repayments of the loan. After seven years, the value of the loan would fall outside the founder’s estate.
These are some of the tax reasons to consider a family investment company. But there are non-tax reasons too including the ability for the founders, provided the careful drafting of appropriate articles and shareholder agreements, to continue to exercise some control over the company while passing value to children or other family members.
If you would like to discuss how we can assist with establishing a family investment company, please get in touch.
I am sure many people are familiar with the concept of a Family Investment Company (FIC).
They were seen as the new alternative to trusts when a young Gordon Brown, prior to his successful period as British Prime Minister, ‘simplified’ trust taxation with effect from March 2006.
From this time, virtually all new trusts would become subject to the Relevant Property regime for Inheritance Tax (IHT) purposes. In other words, tax on entry, tax every ten years, and tax on exit regardless of the type of trust unless one could make use of particular exemptions.
Broadly, the idea was thus.
Form a new family Company, with the, say, Parents as Directors. They would exercise control of the assets and make day-to-day investment decisions similar to the Trustees of a Trust. The Children would get shares, with a high degree of flexibility over the rights to capital and income.
Any value which passed in to the shares of the Children would result in a Potentially Exempt Transfer (PET) and, as such, would not suffer an immediate charge to IHT.
FICs were, and are, in their element when the founders are transferring cash. Otherwise there can be CGT problems (in the absence of any available relief) and, in the case of property, Stamp Duty Land Tax (SDLT) will be relevant.
Where this cash is invested in equities, then the dividends on those equities could be received by the FIC free of tax. This enable gross reinvestment of such income. Even where the income is not dividend income, then the 20% rate of corporation tax (which will fall further to 18% over coming years) means that there will be more to reinvest in the investment business using this route. Of course, one should not forget that if one wishes to personally extract value then there will be a second layer of tax on the funds that are drawn upon.
For the avoidance of doubt, the rest of the relevant property regime does not apply to Companies, so there is an absence of any 10 year or exit charges.
So we come on to the new dividend tax rules announced at the Summer Budget 2015. These will take effect from 6 April 2016.
The effect of the changes:
So why such a monumental shift? Although there have been discussions for many years regarding the unification of income tax and National Insurance Contributions (NICs), these specific changes came truly out of left field. It was surprising for at least the following reasons:
Let’s say Mr X has Company (XTC Trading) worth £5m. He is the sole shareholder in the Company and sole Director. It makes profits of £1m per annum.
Up until now, as is typical of SMEs, he has taken a small salary of £12,500 per annum and paid himself dividends of between £300k - £400k per annum. This year he has paid himself a dividend of £350,000. He has other income – including his salary, a consultancy fee and property income – which already takes him in to the 45% tax bracket.
For the current year, his tax bill in respect of his dividends is:
| Taxable dividend |
350,000 |
| Effective rate |
30.6% |
| Tax due |
107,100 |
Going forward, his tax bill in respect of his dividends will be:
| Total dividend |
350,000 |
| Less: allowance |
-5,000 |
| Taxable dividend |
345,000 |
| Effective rate |
38.1% |
| Tax due |
131,445 |
| Difference |
24,345 |
This is a significant increase in the income tax payable by Mr X. I am sure he is relieved that the Conservatives introduced the income tax ‘lock’ guaranteeing no tax rises!
Consider maximising dividends prior to the 6 April 2016. This might include clearing out the Company’s distributable reserves.
One could of course loan the money back to the Company to provide working capital if cash was required in the business.
One might also consider putting in place a Family Investment Group (FIG). This would involve Mr X establishing a new holding company. He might then consider selling his shares in XTC Limited to the new holding company.
On the Sale of the shares, the consideration is left outstanding. This creates a loan account in Mr X’s favour for £5m. Mr X may draw down on this loan free of further tax in the future.
The sale, assuming the Company qualifies for Entrepreneurs’ Relief, would crystallise a tax liability of £500k (assuming no base cost of the shares for CGT purposes). If that sale took place in December 2015, then the CGT would be due then this would be due by 31 Jan 2017. If the Company carried on its present level of profitability it could have potentially have paid down (to Mr X) £1-1.2m of this loan account. Therefore client would be ‘in the money’ and able to pay the CGT.
As discussed earlier, XTC Limited can pay up dividends to FIG without corporation tax. Alternatively, FIG could then invest – directly or indirectly – in to another commercial project.
Is there a risk of Transaction in Securities anti-avoidance legislation biting? These provisions try to prevent one converting profits which would be subject to income tax in to a more favourable capital treatment? This would need to be reviewed, and addressed, on a case-by case basis.
From an IHT perspective, is there a risk that the group is no longer a trading group? This could be the case where the new project is a non-trading project and its value becomes proportionally significant in respect of the overall group. This could be addressed internally. Alternatively, it could be used by sheltering the value of the group (or parts of the group) within a structure.
If you have any queries about this article, A Family Investment Group, or other tax matters in general, then please get in touch
