Inheritance Tax - Measures To Avoid It

Inheritance tax can affect everyone, not only the rich. The estate of a UK taxpayer can pay tax at 40% if the value is above £255,000.

If you choose to give your property away, there will be no tax to pay unless you die in the following seven years, and this tax would be payable at your death.

This may seem a simple decision to make, with the avoidance of paying tax the ultimate aim, but however passing on assets too early can leave you without an income. No one knows what the future holds.

If a taxpayer wanted to inject capital into her son’s business, she could help the business during her lifetime and also save on inheritance tax (IHT).

The Solution

1. Annual Exemption. For gifts, there is an IHT-free amount each tax year. (April 6 to April 5) of £3000. If you don’t use it, you can carry it forward but only for one year. So if it wasn’t used in 2002/03 they have £6000 each they can remove from the IHT net by April 5 2004. But this might not be enough for the needs of the business, what happens if a gift is in excess of £3000?
2. PETs If the taxpayer gave her son £100,000 by way of a lifetime transfer, she would have to survive for seven years in order to avoid IHT liability on the gift. This is known as a Potentially Exempt Transfer (PET), therefore gifts made in your lifetime can be taxed under IHT rules, it is not just on gifts you leave behind. The £100,000 gift would currently be liable for £40,000 IHT.

A way to avoid this is by applying Business Property Relief (BPR), which gives certain assets 100% exemption from IHT, examples are if you invest your money as follows:

1. An unincorporated business or a share in a partnership.
2. A shareholding in an unquoted company, irrespective of whether or not control is acquired.
3. A controlling interest in a quoted company (50% BPR).
4. You must have owned the property for 2 years at least prior to your death.

The taxpayer could therefore invest in the business either by becoming a partner or acquiring share capital, and only needs to survive by two years to get 100% BPR from IHT for their investment. So the potential £40,000 IHT liability can be eliminated by BPR.

Therefore one way to avoid inheritance tax is not by making a cash gift but by investing in a business as either a partner or shareholder. This results in just a two-year wait to avoid BPR instead of seven years to avoid inheritance tax.

This gives you the advantage that you can still receive an income from your money, either by dividends or profit share from the business you have invested in.