Tax issues on transferring shares to family – succession

Owners of successful businesses frequently use companies as a trading medium not least because of the tax benefits that can be achieved. When the time comes for the owner to retire or reduce their involvement there are two options – sell or pass to the next generation. If the latter, then there are ways to do so tax efficiently.

Gift of Shares

Gifting (or transferring) of shares within the owner’s lifetime fall within the same CGT rules as for the transfer of any asset and as such could fall within the ‘settlement rules’ (which prevent someone from taking tax advantages by diverting income to another) if not undertaken correctly. However, gifts to family members are not caught by these rules so long as the right to all of the dividend income is not restricted.

The gift will transfer value out of the owner’s estate for IHT purposes and as it will be of unquoted shares then the transfer will attract 100% Business Property Relief (so long as the owner had a controlling share).

Problems may be found should the family member(s) receiving the shares be an employee of the company at the time of transfer. This is because HMRC have been known to argue that the receipt would not have been received if the donee had not been in employment and as such the gift is really employment income.

Purchase of shares by the company

The shares are most likely to be the most valuable assets held by the owner who may need cash to fund their retirement but want the company to remain in the family. The family could purchase the shares but may not have the cash to do so. If the company has accumulated a large bank balance over the years, the company can ‘buy back’ the owners shares using the company’s reserves to fund the purchase. This will not only mean that the cash can be withdrawn as a capital repayment rather than an income tax distribution but the family will not have to raise the money by other means. The seller is treated as having received a capital payment for capital gains tax purposes attracting more beneficial tax rates and possibly ‘Business Asset Disposal Relief’ (BADR). The main requirements for this relief are that the shareholder must have usually owned the shares for at least five years and either dispose of the entire holding or the shareholding ‘substantially reduced’.

Use of Family trust

Should the intended family members be minors and/or the controlling shareholder wishes to keep voting control of the shares but keep the shares out of IHT, then the transfer of shares into a family trust may need to be considered. The gift itself can attract 100% Business Property Relief (BPR) of the transfer value so long as the shares have been owned for at least two years. If BPR is not available, then the gift falls out of account under the Potential Exemption Transfer (PET) relief rules should the owner survive the gift by the usual seven years and the trust continues to hold the property as a qualifying investment. The BPR rules permit the donor to retain 51% of the shares personally and then gift the remainder into the discretionary trust ready for when the family members become of age.

It would be advisable to take out a reducing seven-year term policy on the settlor’s life in case they die and the seven-year PET fails.

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