Business Succession Planning
1. Business Will
A Business Will: It is a widely held belief that you should have a separate Will for your personal assets and another Will for your business assets. However, this is a misconception. Your Will applies to all your property, including your business and assets.
Business Property Relief (BPR): BPR is a large and complex area of tax, so what follows is only a brief overview of the area. BPR is a relief from Inheritance Tax (IHT) that transfers of certain qualifying business assets may attract. The relief may apply to transfers on death and also transfers in lifetime. It can be quite a generous relief, with business assets attracting BPR at a rate of 50% or 100%, so potentially reducing their IHT liability on the business to nil. Not all businesses will qualify for BPR.
There are three main requirements that have to be met.
1) The business property must be a 'qualifying business'
Broadly, the business must be a trading business carried on for gain. Not all trading businesses will qualify, though, as certain activities are not ‘qualifying businesses.’ If the business consists wholly or mainly of dealing in securities, stocks, or shares, dealing in land or buildings, or making or holding investments, then it will not qualify (section 105(3)-(4) Inheritance Tax Act 1984).
This is bad news for landlords, as a buy-to-let business would be classed as an investment business and would not attract any BPR.
2) The business property must be 'relevant business property'
The amount of BPR available will depend on the type of relevant business property. An interest in a business, unquoted company shares, and unquoted company securities, which gave the transferor control of the company immediately before the transfer, will all qualify for BPR at 100%.
Quoted company shares or securities that gave the transferor control will qualify for BPR at 50%.
Land, buildings, machinery, or plant used wholly or mainly for the company's purposes will qualify for BPR at 50%.
This is the case whether the assets were owned by the transferor directly or were held in a trust that they had an interest in possession in, as long as the transferor’s interest in the business was itself relevant business property.
3) The business property must be 'relevant business property'
The business property must have been owned by the transferor for 2 years immediately prior to the transfer (section 106 IHTA 1984). This ownership period is transferrable between spouses and civil partners on death, so a surviving spouse who inherits a business will be treated as though they had owned it from the date their deceased spouse first acquired it.
So as not to deter business owners from investing in their own business, the ownership period requirement for replacement property is relaxed. It may be that a business owner purchases an asset that would be relevant business property if it was held for 2 years. As long as the new asset replaces relevant business property, and the old and replacement property were held for a combined period of 2 years falling within the 5 years immediately before the transfer, the replacement asset will be relevant business property (section 107 IHTA 1984).
Look out for binding contracts for sale. A business will not qualify for BPR if it is subject to a binding contract for sale at the time of the transfer. Unfortunately, many an estate is caught out by this due to the way the company’s articles of association or shareholders agreement were drafted. If the shareholders or partners enter into an agreement to purchase a deceased shareholder or partner’s interest in the business on death then BPR will not be available if the agreement binds the personal representatives of the estate. If the personal representatives are not obliged to sell the interest to the surviving shareholders then BPR won’t be lost, so it is perfectly fine for business owners to enter into ‘cross-option agreements’ with each other.
2. Business Trust
BPR Trust: This discretionary trust contains assets eligible for BPR at either 100% or 50% relief. Fern Wills & Trusts can establish such a trust; however, due to the complexity and potential changes in tax regulations, it is advisable to cross-consult with your IFA, accountant or tax specialist. Transferring a business to a spouse is exempt from IHT. If the business is eligible for BPR, it could also be exempt from IHT upon the second death, provided it qualifies for 100% relief. However, BPR might not be applicable on the second death if the business is sold or run in a manner that no longer qualifies.A discretionary trust is often used to mitigate a situation where a surviving spouse sells the business. The trust is its own legal entity; rather than the spouse, it owns the business or its sale proceeds.
A Letter Of Wishes usually states that the spouse is to be treated as the main beneficiary of the trust whilst they are still alive. Upon their death, it could direct that the trust be wound up and assets distributed to the beneficiaries, or it could continue to run. While BPR remains available, the business assets can stay in the trust and avoid charges where 100% relief is available. If the assets only qualify for 50% relief, then charges may apply:
- Entry Charges: 20% upfront Chargeable Lifetime Transfer (CLT) over the NRB.
- Periodic Charges: On the tenth anniversary, 6% on assets over NRB
- Exit Charges: A 6% pro-rata charge since the last periodic charge.
Giving BPR assets to a non-exempt discretionary trust means HMRC must decide if they qualify for relief. Giving them to an IHT-exempt beneficiary, like a spouse, means no decision is necessary as the spousal exemption applies. Knowing whether the business qualifies or not can affect the planning that the spouse wishes to make in the future; for example, if the business did not qualify for the relief, they may want to undertake more lifetime planning than they would if the business did qualify. The usual benefits of using a discretionary trust will also apply, such as the flexibility to benefit all the potential beneficiaries if the need arises and the protection from the beneficiaries remarrying and going bankrupt.
3. Business Powers Of Attorney
1) Property & Financial Affairs Lasting Power of Attorney (P&F LPA):
Providing the LPA doesn’t contain any instructions that restrict the attorney’s power to only personal finances; they will be able to deal with the donor’s personal and business affairs. However you may not want to mix the two.
2) A Business or Commercial LPA (BLPA): Technically there is no such thing as a Business LPA. Though it is commonly used a a succession planning tool. It is a restricted personal P&F LPA called a Business or Commercial LPA.
A BLPA gives restricted authority for attorneys to make decisions about your commercial activity. It is a separate document from any other LPA. It is a Property and Financial Affairs LPA tailored according to the business and considers its articles of association and shareholder or partnership agreements. You can have a BLPA that clarifies to your attorneys where the authority starts and ends.
Ideally you would have three LPAs 1) BLPA 2) Personal P&F LPA 3) Health & Welfare LPA
BLPA: The instruction would state "“My attorneys only have the authority to use my business accounts and make decisions relating to my business. They are not permitted to use my personal account or make decisions about my personal finances.”
Personal P&F LPA: The instruction would state "“My attorneys only have the authority to use my personal bank account. They are not permitted to access my business account or make any decisions relating to my business.”
Who should act as an attorney in your LPA?
A family member or friend may not have the expertise to make business decisions, so you can either appoint a professional (which will have an associated fee) or even your business partner if you feel this is the right decision. It needs someone you trust, understands your business and shares similar business goals.
What happens if no LPA has been put in place for your business?
It is not just about lost capacity, you can put an LPA in place for your business should you become unable to make decisions due to unavailability i.e. holidaying abroad, illness, accident or simply due to a loss of capacity. The power vested in your chosen attorney would allow them to continue running the business, paying salaries to staff, sign cheques, access the business account or even pay bills. Suppose you permanently or temporarily lose capacity. In that case, the bank will likely freeze the business accounts. Someone on your behalf would have to apply to the Court of Protection and apply for a Deputyship Order. This can take up to 6 months and is expensive. No one can make crucial business decisions during this time.
- Sole Trader: As the owner and controller of the business. If you are unable to make a decision due to illness or injury, no one will be able to continue to make critical business decisions on your behalf unless you have an LPA in place.
- Partnership: A partnership agreement may exist, determining what happens if you can no longer make decisions. Check for this before an LPA is drawn up to prevent conflict between the two documents.
- Ltd Company: ‘Articles of association’ are written rules about running the company that are agreed upon by the shareholders, directors, and the company secretary. Your articles of association could contain provisions regarding what could happen if you or another co-director becomes incapacitated. Check this before making an LPA to ensure both
There can be restrictions in articles of association or shareholders agreement as to who can be an attorney so this should be checked first before the LPA is drawn up
3) General Power Of Attorney (GPA)
Also known as an ordinary power of Attorney. Partnerships often use GPAs to authorise each partner to act and sign on behalf of the others, specifically for business-related matters. This is especially helpful when partners are unwilling to communicate or collaborate. In such cases a third party can represent them and act on their behalf.
GPA are considerably cheaper than LPAs and are effective within days rather than months as for LPAs. They only work whilst the 'donor' retains mental capacity.
Article written with thanks to Manisha Chauhan of the SWW Technical Advice Team
