Introduction
Family Investment Companies (“FICs”) have been popular instruments for succession planning since the overhaul of the trusts tax legislation in 2006. However, the importance of FICs is likely to rise due to more estates becoming subject to Inheritance Tax. The latest figures from HMRC show that it received just under £7.5 billion in IHT in the 12 months to April last year – up 40 % in the last five years.
In addition, the last Budget unveiled changes to IHT reliefs which are due to take effect in the near future. In this article, we focus on what FICSs are and their potential advantages as well as key considerations for families thinking about creating one.
What is a Family Investment Company?
A Family Investment Company (FIC) is a private limited (or unlimited) company whose shareholders are family members. Alphabet shares are issued and each family member will hold a different class of share with different voting rights, rights to income and rights to capital should the Company be wound up. This is done in accordance with the company documents (such as Memorandum, Article of Association and Shareholders Agreement). The various classes of shareholdings allow individuals to differentiate between the tax planning and succession needs of all family members.
How is a Family Investment Company funded?
The FIC may be funded partly or wholly by way of loan, allowing the individual donor to withdraw capital from the FIC tax-free. The donor may also subscribe to preference shares. The method of funding would need to be considered on a case by case basis.
How do Family Investment Companies protect the family wealth?
Additional asset protection can be provided by restricting the transfer of shares to spouses and non-family members (by drafting bespoke company Articles of Association and Shareholder agreements). It may also offer additional protection during divorce proceedings or from creditors.
Who retains control?
Clients can understandably be wary about making outright gifts to family members. Family disputes can arise unexpectedly and clients are often concerned by their children’s relationships and the impact a divorce may have on any gift made. However, in using the FIC, as family members have different rights over the shares, it is not the same as gifting assets outright. The original donor of the gift can still control the company and its assets should they wish, but – crucially – the capital value will have started to be moved away from their estate, assisting with Inheritance Tax planning.
What about trusts?
FICs are increasingly popular as alternative to trusts in that they facilitate the distribution of family wealth to younger generations while founders to keep control of the assets involved. This is not to say that trusts do not have a role to play in estate planning. Trusts have significant benefits in terms of protection and tax mitigation, and often can form part of the overall solution. Because of their benefits, trusts are often used within the FIC structure, particularly for minor or vulnerable beneficiaries. However, since most trusts fall within the “relevant property regime”, there needs to be a careful consideration of the tax implications. That is because assets can only be placed in trust up to the value of the Nil Rate Band (£325,000). Where amounts are settled above this amount, there would be an immediate IHT lifetime charge at 20% with further charges every ten years through the life of the trust. FICs are not subject to either the charge, hence their growing popularity.
Advantages of FICs
- The FIC can be subscribed for on creation, meaning there is no transfer of value.
- Inheritance tax – alternatively shares in a FIC can be given to family members and, after seven years, the value of the gifts falls outside the donor’s estate for Inheritance Tax purposes.
Any increase in value of the investments held by the FIC can arise outside the estate of the original donor as value accrues to shares held by the other family members.
- Tax efficient accumulation of wealth – income and gains are taxed on the FIC at the Corporation Tax rate (19%-25%). This rate is much lower than the current rate of Income Tax for trusts of 45%, and the higher and additional rates of Income Tax for individuals of 40% and 45% respectively.
- Income tax – by structuring the ownership of shares, families can allocate income from investments (such as dividends) in a tax-efficient way, potentially reducing the overall tax burden.
- Capital Gains Tax (CGT) – FICs are typically subject to Corporation Tax on capital gains of 19% rather than the 18% or 24% personal CGT rates.
- Expenses incurred by the FIC in managing its investments and running its business are eligible for Corporation Tax relief.
- The value of the gift is frozen at the date shares are transferred to family members. Therefore, this ought to substantially reduce the estate of the original donors (although not necessary completely if they wish to retain a significant benefit).
- You can either pass income generating assets to grandchildren directly or via a trust to utilise their own tax allowances, making the FIC even more attractive.
Potential disadvantages of FICs
- Careful planning is needed when deciding which assets to introduce to FIC. Assets which may have associated gains on disposal (such as property) may not be appropriate, as transferring them to a company could create a CGT charge. No holdover relief is available when transferring assets to a company, whereas this is usually available with a trust.
- Assets, such as shares and property, could attract Stamp Duty Land Tax charges if they are moved into a FIC.
- There is no guarantee that Corporation Tax rates will remain as they are.
- There is the risk of double layers of taxation if planning is not conducted correctly. If all profits are taken out of the company, the company first pays Corporation Tax on its profits and secondly – FIC shareholders will have to pay Income Tax when profits are distributed in the form of a dividend.
- The cost of setting up the FIC and the ongoing administration, such as completing annual accounts and Corporation Tax returns of FIC, can make a FIC seem less attractive. However, more often than not the advantages of setting up a FIC far outweigh the costs associated with them.
What are the steps involved in creating a FIC?
The steps involved with a FIC is usually:
1.Meeting with your advisors to discuss your requirements in detail.
2.Detailing the specific work required by the professional advisors, including a tax specialist.
3.Considering the possibility of a FIC Family Charter, which addresses the long-term strategy, values, ownership of the FIC, dividends, employment of family members, the board, governance, key decisions, the next generation, etc.
4.Advising about the proposed name and structure of the FIC.
5.Consider all tax implications such as (but not limited to) CT, CGT, SDLT, IT and ATED.
6.Drafting bare trusts or Discretionary Trusts as required, particularly for growth shares, vulnerable beneficiaries or shares for future grandchildren.
7.Drafting robust Articles of Association and Shareholders Agreement.
8.Preparing the Stock Transfer Forms, Board Minutes, Written Resolutions and preparing the new share certificates, as required.
9.Preparing Statutory forms and addressing all reporting requirements including registration of the documents.
10.Assisting with the registration of the FIC with the banks, Companies House, HMRC as required. Given this is a more specialist type of account, we can support you with the opening of a specialist bank account for the FIC. As discussed, this could also form part of our fee structure.
11.Consider ongoing investment advice in conjunction with financial advisors/tax advisors/ family offices.
Conclusion
Family Investment Companies can be incredibly powerful tools for managing, growing and passing on family wealth to the next generation. FICs offer numerous advantages, including tax efficiency, control, flexibility and asset protection. However, they also come with legal, tax, administrative and family dynamics challenges that should be carefully considered before setting one up.
As with all estate planning decisions, it is paramount to consult with your advisors to determine whether a FIC is the right strategy for your family’s unique circumstances. A case-by-case approach should always be adopted as every family is different and all estate planning options should be explored.
For further advice and guidance on this topic, please contact the experienced solicitors at Private Client Solicitors, who will be pleased to arrange an initial meeting.