The tax benefits of Family Investment Companies
Many families use limited companies as vehicles for holding and making investments, commonly known as Family Investment Companies (FICs). In this article we discuss the tax benefits of Family Investment Companies.
What is a Family Investment Company?
A Family Investment Company is a private limited company where family members hold shares. Unlike trusts, FICs offer more direct control over assets, and provide a formal structure for managing investments. These companies are typically limited by shares, with shareholdings distributed among family members. What's more they often span multiple generations.
If you are interested in tax-efficient growth or asset protection, a Family Investment Company, can acquire investments in its own legal right.
Non-tax benefits of Family Investment Companies
The non-tax benefits of Family Investment Companies make them both flexible and strategic. Their structure typically involves:
The rise of Family Investment Companies
In recent years, the UK has seen a rise in the use of FICs, primarily due to their tax efficiency and the tightening of trust regulations. For those with significant assets, FICs present an opportunity to manage wealth in alignment with long-term financial goals and tax planning strategies.
The tax benefits of Family Investment Companies
Overview
Many FICs fall into the description of a Close Investment Holding Company. Meaning from 1 April 2023 they will be taxed at the main rate of corporation tax of 25%. What's more, this is regardless of their profit levels.
However when used as a genuine family wealth wrapper, it's possible to gradually shift control of the company. As a result, the family wealth is shifted to the next generation with associated Inheritance Tax benefits.
Income tax
Companies are generally exempt from paying tax on dividend income themselves. Any interest or rental income will be taxable at the corporate tax rate of 25% Compared to 40%/45% if received as an individual.
FICs can distribute profits to shareholders as dividends and shareholders can be allocated different classes of shares. This flexibility in paying dividends can be particularly advantageous for utilising lower tax bands of various family members.
One drawback is the potential for a double tax charge when extracting profits from a company, especially where it receives taxable rental income.
Therefore, a FIC is usually not recommended if profits need to be extracted by anyone other than a basic rate taxpayer in the short to medium term.
Capital Gains Tax
Companies are charged to Corporation Tax on gains. There is also no annual exempt amount; Indexation relief is available but frozen at 31 December 2017 for any disposal from 1 January 2018.
Inheritance tax
If the FIC's activities mainly involve holding investments, the value of its shares at death will be included in their owner's estate. However, this can be mitigated by passing shares down over time, careful structuring initial shareholdings or investing in assets that will qualify for Business Property Relief. For example example are shares in AIM listed companies. Additionally, minority shareholdings are discounted in value for IHT due to lack of marketability which can be very advantageous.
Unlike Trusts, FICs do not 10-year anniversary or Exit charges and their running costs may be less expensive than for a Trust
Setting up a Family Investment Company
An FIC can run in tandem with and receive funding from existing trading companies. Ideally the initial funding should be with cash. This should avoid triggering any latent capital gains.
If this is not possible, use assets standing at a loss to mitigate any chargeable gains or transfer assets gradually over time to maximise the use of available Capital Gains Tax annual exemptions.
Creating new share classes
If setting up a company from scratch, creating different share classes with different rights is straightforward.
Changing share rights in an existing company to use it as a FIC, might present a CGT issue if the company already has value and shares need to be transferrer to adult children. However creating a new class of shares known as 'Growth shares' can sidestep this issue.
Passing on a FIC to the next generation
Carefully planning is necessary to pass on shares of a FIC. This is because investment company shares do not qualify for the same Capital Gains and Inheritance Tax holdover reliefs available for trading company shares.
Summary
The tax benefits of Family Investment Companies in the UK are compelling. They offer a versatile and efficient means of managing family wealth, with considerable benefits.
However each FIC should be tailored to your particular circumstances and it is not recommended to use an off-the-shelf structure.
Whilst FICs are alternatives to trust, including a Trust in a FIC structure might be desirable if it can be funded without triggering a tax charge. However, a trust can still be tax-efficient. and the double layering of trust/corporation adds an additional level of security to the assets though it may increase costs.
For more useful information, check out our Ebooks here.
And if you'd like to know how we can help you with all of this, or with anything else, feel free to give us a call on 01202 048696 or email us at [email protected].
Alternatively, please feel free to complete our Business Questionnaire here.