Inheritance Tax: Take the sting out of selling your business

Selling a business is an exciting time. Unfortunately without proper planning there is a risk that after you die a large proportion of the proceeds might go to HMRC in the form of Inheritance Tax (IHT).

Shares in qualifying privately held trading businesses can benefit from 100% Business Property Relief (BPR), provided the company meets the relevant conditions (for example, it must be a trading business rather than mainly investment-based, and the shares must typically have been held for at least two years). On sale, shares that qualified for BPR are converted into cash, which does not qualify for relief and will normally form part of your taxable estate unless further planning is undertaken.

The first £325,000 per individual (or £650,000 for a married couple or civil partners) is exempt from IHT through the Nil Rate Band (NRB). This threshold is currently frozen until at least April 2028, which means more estates are being brought into the IHT net over time. Any non-exempt assets above the NRB are taxed at a rate of 40%.

Fortunately, there are a number of measures you can take to minimise IHT. Most require forward planning and could have unforeseen ramifications. Therefore, you should always seek advice before proceeding with any of the strategies outlined below.

That’s where our tax experts come in - our team have a wealth of experience when it comes to optimising an individual’s or business’ tax position, including getting your tax affairs in order ahead of selling your business.

Furthermore, if you are thinking of selling up, our MBA-qualified business consultant is on hand to provide an accurate business valuation and ensure you don’t sell yourself short.

Get in touch with us about selling your business and we would be happy to discuss a bespoke strategy for you.

Pensions

Assets held in most defined contribution pension schemes are typically outside your estate for IHT purposes, provided the scheme is structured under discretionary trust arrangements (which is the case for most modern pensions). It can often be accessed flexibly from age 55 (rising to 57 from April 2028), and can be passed down the generations very tax-efficiently.

Before you sell your business, it may therefore be worth considering using surplus company profits to fund employer pension contributions, as part of a wider pre-sale extraction strategy. However, employer contributions must meet the “wholly and exclusively for the purposes of the trade” test to be deductible for corporation tax, and are subject to the annual allowance, carry forward rules, and anti-avoidance provisions. The lifetime allowance has been abolished (from April 2024), but it has effectively been replaced by new limits on tax-free lump sums. Most individuals are now subject to a Lump Sum Allowance of £268,275 (unless they hold valid protections), which caps the total tax-free cash that can be taken across all pension benefits.

Give it away

Gifts to individuals (known as potentially exempt transfers) become fully exempt from IHT if you survive for seven years. If you die within that period, taper relief may reduce the IHT payable on gifts made more than three years before death.

Be careful, though: each “potentially exempt transfer” (PET) has its own seven-year clock. Making additional gifts does not reset the clock on earlier gifts, but if you die within seven years, earlier gifts are taken into account first when calculating any IHT due. If you intend to make substantial gifts, aligning them within a shorter timeframe can simplify planning by allowing the seven-year periods to run broadly in parallel, although each gift is still assessed individually for IHT purposes. However, the optimal approach depends on your wider financial position and should be structured with advice.

Individuals can also make gifts of up to £3,000 per year that are immediately IHT-free, as are unlimited gifts out of excess income. The word “excess” is important: you can’t just spend all your capital while giving your State pension to your grandchildren.

Trusts

If giving away your assets is unappealing, or you may need to dip into them later, you could settle them into trusts.

Transfers into most trusts (such as discretionary trusts) are typically chargeable lifetime transfers and may trigger an immediate IHT charge if they exceed the available Nil Rate Band. They can fall outside your estate after seven years, but ongoing ten-year and exit charges may apply.

A common strategy is for each spouse or civil partner to settle assets up to the Nil Rate Band into trust, but this requires careful structuring and advice.

Trusts are complex and involve ongoing costs. However, they can potentially reduce your heirs’ IHT liability while also giving you control over your assets during your lifetime and beyond.

AIM shares

Shares in many AIM-listed trading companies can qualify for BPR, but eligibility depends on the underlying activities of the business (for example, companies with substantial investment activities may not qualify). Well-diversified AIM portfolios therefore form part of many wealthy individuals’ estate plans. These assets are by nature risky so, while they can play an important role in reducing IHT liabilities, they should not usually make up a majority of your investments.

AIM shares that qualify for Business Property Relief must generally be held for at least two years to benefit from relief. There is no general “grace period” following the sale of a business. However, Business Property Relief can in some cases be preserved where qualifying replacement assets are acquired within specific time limits (typically within three years), subject to detailed conditions.

Family Home Allowance

The Residence Nil Rate Band (RNRB) is now fully in place and can allow couples to pass on up to £1 million free of IHT (subject to conditions), based on two Nil Rate Bands (£325,000 each) and two RNRBs (£175,000 each).

It applies where a qualifying interest in a main residence is passed to direct descendants (such as children or grandchildren) but it is tapered away for joint estates with a “net” value of more than £2 million, with the entire benefit being lost by estates valued at £2.7 million or above.

For the purposes of the Residence Nil Rate Band taper, HMRC calculates the estate value before applying reliefs such as BPR. This means that assets qualifying for BPR (including AIM shares) are still included when assessing whether the £2 million taper threshold is exceeded.

Gifts made, and trusts endowed, under the seven-year rule can, however, potentially reduce net estate value, enabling the heirs of many former business owners to benefit from this valuable tax relief.

It’s vital to reiterate that before undertaking any of the above strategies you are advised to speak with your tax accountant about inheritance tax and get their professional guidance.