When parents consider how to pass wealth and assets to the next generation, a key concern for many is how they can achieve this whilst retaining some control over the assets during their lifetime.
Often the driver behind this is the long-term protection of family assets (eg from divorce) and finding the balance between ensuring children can enjoy the fruit of their parents’ labour, affording them opportunities in life, whilst also ensuring that they are not given too much too soon, potentially dampening the drive of their children to carve their own path.
Historically, trusts have been the go-to solution for addressing this issue. However, since 2006, trusts have become increasingly difficult to use as a means of passing wealth to the next generation. At that time, significant tax changes were introduced that meant settling assets on trust could give rise to an upfront 20 per cent Inheritance Tax (IHT) liability.
Unfortunately, there has been a steady decline in the use of trusts since 2006 and in contrast, we have seen the rise in the use of an alternative vehicle, the Family Investment Company (FIC).
Simply put, FICs are companies that hold the family’s long-term investments (eg holding share portfolios or property).
Typically, parents initially fund the FIC, often by subscribing for shares or by making loans, and then gift these shares and loans to their children and wider family members so they can benefit from the FIC in the future.
Parents will often retain some shares that enable them to retain control over the FIC and as board members, they can determine the investment decisions made and when any benefits to shareholders are provided.
In this way, the FIC can mirror some of the advantages of a trust as it allows for assets to effectively be gifted to wider family members (through the gifts of shares and loans), whilst retaining control during their lifetime.
This is efficient from an IHT perspective as can take value out of the parents’ estates on which 40 per cent IHT may have been due, albeit that liability is transferred to another family member. Whilst that might therefore be seen as a deferral of IHT, a key benefit is that no upfront 20 per cent IHT cost arises as can arise with a gift to trust.
Holding investments in companies can also be tax efficient as companies do not generally suffer corporation tax on their dividends received from shares held and there is a significant differential between the income tax rates (up to 45 per cent) and corporation tax (currently 19 per cent and due to reduce to 17 per cent).
Given their advantages and increasing popularity, it is no surprise that FIC structures are coming under greater scrutiny from HMRC. In recent years, there have been changes to the taxation of companies, some of which seem squarely aimed at investment companies. For example, in the 2018 Budget, changes were announced that ensured stamp duty was not avoided where listed shares were transferred to a connected company.
In a similar vein, Labour have mooted potential changes to the taxation of certain companies in their previous manifestos which could impact on the tax treatment of FICs’ investment profits in the future.
In light of this, it is vital when planning for the family’s future, that all options are reviewed carefully as FICs are not appropriate for everyone. If, having considered the options in detail, it is determined that the establishment of a FIC is the preferred route then careful implementation is key to its future success. The structure should be tailored to the specific family’s needs and a thorough analysis and implementation is needed to ensure it is as robust as possible for any challenges the future may bring.
For more information please get in touch with Chris Etherington.