Transactions between a company and its owners are relatively common, particularly in owner-managed and family companies.
Where an asset is being transferred to or from a ‘close’ (i.e. broadly a closely-controlled) company, most taxpayers (or their advisers) will normally be concerned about whether there are any potential capital gains tax or corporation tax implications for the transferor, and whether there are any income tax (and possibly National Insurance contributions) implications if the recipient of the transfer is (say) a director shareholder.
However, there may also be possible inheritance tax (IHT) implications, which should not be overlooked.
Transfers to the company
A transfer of value (e.g. a lifetime gift) from an individual to a company is an immediately chargeable transfer for IHT purposes, subject to any available exemptions and/or reliefs (by contrast, a gift to another individual is a potentially exempt transfer (PET), which becomes exempt from if the donor survives at least seven years).
A chargeable lifetime transfer to the company in excess of the individual’s available nil rate band (£325,000 for 2019/20) is liable to IHT at 20%, and further IHT may become due if the donor dies within seven years.
The IHT charge (if any) is based on the reduction in value of the individual’s estate as a result of making the gift. In an owner-managed or family company where the individual making a gift to the company is a shareholder, this reduction may be offset to the extent of any increase in the value of the individual’s company’s shares resulting from the gifted asset.
Transfers from the company
Chargeable transfers for IHT purposes are made by individuals (IHTA 1984, s 2(1)). In the absence of provisions dealing with transfers of value by companies (in IHTA 1984, ss 94-102), such transfers would not be liable to IHT. Specific rules therefore apply to transfers by close companies.
Where a close company makes a transfer of value, IHT is generally charged as if each individual ‘participator’ (e.g. shareholder; it is assumed here that transfers are to company shareholders) had made a transfer of value of the amount apportioned to him, according to their rights and interests in the company immediately before the transfer.
The deemed transfer of value is an immediately chargeable transfer (i.e. it cannot be a PET). The IHT liability is primarily charged on the company. However, if the IHT liability is paid late, the shareholders (and anyone else whose estate was increased by the transfer) may become liable instead. In such circumstances, each of the other shareholders is liable for the proportion of the IHT corresponding to that part of the value of the transfer apportioned to them. A shareholder whose estate is increased by the company’s transfer is not liable for an amount greater than the amount of the increase (IHTA 1984, s 202).
Example: Transfer of property
John are Ken are shareholders of X Ltd, an investment company. John owns 75% of the shares and Ken owns 25%. The company sells a property worth £300,000 to one of their close friends from the golf club for £100,000. The resulting transfer of value (i.e. £200,000) is apportioned 75% to John (i.e. £150,000) and 25% to Ken (i.e. £50,000).
These apportioned values are chargeable lifetime transfers for IHT purposes. However, the amounts are below John’s and Ken’s available nil rate bands, so no immediate IHT liabilities arise.
Escapes and limitations to the IHT charge
There are certain limitations to the rule apportioning a transfer of value to the company’s shareholders, including:
1. There is no apportionment to the extent that the value is attributable to a payment or transfer of assets which falls to be taken into account in calculating profits, gains or losses for income tax or corporation tax purposes (or would be taken into account but for an exemption in respect of UK company distributions) in the recipient’s hands;
2. No amount is apportioned to a non-UK domiciled individual to the extent that it is attributable to the value of property outside the UK.
If the amount apportioned to a shareholder is 5% or less of the company’s transfer, tax chargeable on the transfer is not added to the individual’s cumulative total of transfers for IHT purposes. In addition, if the company defaults in paying the IHT, such a shareholder cannot be held liable (i.e. the company remains liable instead) (IHTA 1984, ss 94(4), 202(2)).
The IHT annual exemption (£3,000 for 2019/20) may be deducted from the value of any amount apportioned to a shareholder, assuming it has not already been used elsewhere.
The above is a simplified outline of some potentially complex rules. However, the message is that the implications of gifts and transfers to and from family and owner-managed companies should be considered ‘in the round’ taking account of all relevant taxes, including IHT where appropriate.
The above article was first published in Business Tax Insider (January 2019) (www.taxinsider.co.uk).