The new measures surrounding personal ownership of properties, coupled with the new dividend regime has led to a trend in close company investment in property, often within an existing trading company, as an alternative to personal ownership.
At first glance this may appear to be an efficient way of investing; profits of the company can be used directly as opposed to being taxed in the hands of the director/shareholders and then re-invested. The company can claim a full deduction for interest on additional borrowing that may be required and pay Corporation Tax at a lower rate than the Income Tax that would otherwise be payable on profits, and at the same time, limit exposure to the commercial risks of letting.
What is becoming clear, however, is that the potential negative tax implications of this strategy are not always being considered in full before diving in.
Both Business Property Relief (BPR), for Inheritance Tax and Entrepreneurs’ Relief (ER), for Capital Gains Tax rely on there being a qualifying trading company. Carrying on investment activities, such as growing a property letting portfolio, can tarnish a previously qualifying company. The measurement differs between the two taxes, but nonetheless, trading is key and many are not taking this into account which can be a costly oversight.
Arguably, the need to qualify for Entrepreneurs’ Relief is only really of concern if there is a desire to sell the trading entity. The conditions for relief need only be met for a 12 month period ending with the date of a sale and so there is scope to plan for this event. Action can be taken to reorganise the company such that the trading element will qualify at a later date, although in practice it is all too often that the sale is imminent before advice is sought and it is too late to plan.
By its very nature, there is no such lead time available to plan for your ‘date of death’. If at the date of death, you own shares in a qualifying trading company, which is not wholly or mainly making or holding investments, you will be eligible for Business Property Relief (BPR) such that 100% of the value of the shares is excluded from your death estate.
Some of those that have spotted the potential problem have created groups of companies, whereby the trading activities and non-trading activities can be separated. But does this really solve the problem? Well maybe, but that will depend a number of things including, but not limited to:
• Which company holds the investments;
• Whether the activities of a group as a whole will satisfy the ‘wholly or mainly’ rule;
• How important it is to segregate the commercial risks; or
• Whether there is an intention to sell the trading entity in the future.
To conclude, there is a certain amount of planning that can be undertaken to enable a property portfolio to be grown within a family group of companies, without necessarily tarnishing the trading status, but there are also some real traps that will need to be negotiated around in order that valuable tax reliefs are not lost along the way. Unfortunately there is no ‘one-stop’ answer as each case will be unique, but Francis Clark Tax Consultancy deal with these cases on a regular basis and are confident that we can help to appraise the issues for every circumstance.