Setting up a family investment company (FIC) enables the founder to pass assets out of their estate for inheritance tax (IHT) purposes while retaining some control over them.
For many people a trust is the most flexible way to achieve this as the IHT threshold for a couple (currently £650,000) will be sufficient to mitigate their potential IHT liabilities. However, if the sums involved are more than £325,000 per individual, transferring assets to a trust creates an immediate IHT charge at 20% which is where a FIC comes into its own. A FIC is a long term taxefficient vehicle, useful for those with substantial wealth who wish to make gifts of amounts over and above their available nil rate band but still retain control. However, they are complicated and need specialist legal and tax advice.
How do I set up a FIC?
Firstly, a company memorandum and articles of association tailored to the donor’s specific requirements and preferences would be drafted.
Using their own cash/assets, the founder of the FIC would then subscribe for various classes of shares within it. They would make gifts of ordinary non-voting shares to children and/or other beneficiaries while retaining voting shares to keep control over the company and its assets. They might also create and gift, or keep, other classes of shares with differing rights such as to enable the tax-efficient withdrawal of funds, the enjoyment of growth in capital value or a right to future dividends.
Anyone considering a FIC would need detailed legal advice from both a corporate and tax planning perspective to ensure the donor retains control but that the gift of the shares does not constitute a gift with reservation of benefit (so that the value of the shares gifted do not still form part of the donor’s estate).
Creation of a FIC
There may be tax charges on the set up of the FIC if assets other than cash are used to subscribe for shares in the FIC.
Any gains showing on non-cash assets would crystallise and potentially incur a capital gains tax liability for the founder at a rate of up to 20% (or 28% for residential property) based on the market value of assets that are transferred to the company at the date of transfer.
The FIC may incur a stamp duty or stamp duty land tax charge if the assets transferred into it include other company shares or property.
Transfer of FIC shares to beneficiaries
A transfer of shares in a FIC to individuals will be a potentially exempt transfer which will be outside the founder’s estate for IHT purposes, if he or she survives for seven years from the date of the gift. It will not be an immediately chargeable transfer and so will avoid the 20% charge to IHT.
Often the founder will also gift some FIC shares to a trust and so long as the value of these is within the available IHT threshold there would be no tax due on the transfer.
Any future increase in value of the shares gifted to the other shareholders will be immediately outside the founder’s estate.
Creating a tax efficient legacy
During the lifetime of a FIC
Most dividend income received from other company shares held in a FIC is not subject to corporation tax. Non-dividend income received within the FIC is charged at the 19% rate of corporation tax (reducing to 17% from April 2020). Gains made within the FIC (after claiming indexation relief which is available for companies but not individuals) are also charged at corporation tax rates.
These tax rates on income and gains accumulated within the FIC compare very favourably with those applicable to individuals and trusts.
For shareholders extracting profits via dividend payments there is a total annual dividend allowance of £5,000 (£2,000 from April 2018) available to all taxpayers, irrespective of the level of income they receive in any one tax year. Dividend income over and above this allowance is taxed at 7.5% on income up to the basic rate limit, 32.5% on income between the basic rate limit and the higher rate limit, and 38.1% on income above the higher rate limit.
There would be an element of double taxation on any non-dividend income received in and distributed from the FIC; profits are subject to corporation tax and shareholders would be liable for their marginal rate of income tax on the amounts they receive. FICs are usually more tax efficient where income accumulates within them over the long term rather than being paid out to shareholders.
By the founder subscribing for redeemable preference shares, which are subsequently redeemed by the FIC, they can receive capital from the company without any tax consequences.
Whilst the underlying assets of a FIC are generally beyond the reach of the court or creditors in the event of a divorce or bankruptcy, the value of a shareholder’s holding can be taken into account when determining the total value of their assets. The terms of the articles of association can assist by preventing a transfer of shares other than to certain individuals/trusts and for valuation purposes account would be taken of the shareholder restrictions and minority shareholder discount.
FICs would not usually be trading companies, so they can be set up as unlimited companies (without the risk of the shareholders incurring liabilities) to avoid the accounts filing requirements of private limited companies.
For very large value FICs with complex share structures it may be worth instructing a tax barrister to comment on the company documents, and a specialist company share valuer to ensure that the terms of the FIC’s articles of association mean there is substantial value in the shares that are gifted. The intention is that the value of the founder’s estate and the potential IHT liability on it are significantly lower as a consequence of the gift.