Managing wealth through Family Investment Companies
For those in the property and construction industry, Family Investment Companies (FICs), are an increasingly familiar feature on the tax planning landscape after changes to The Finance Act 2006 made trusts less attractive as vehicles for holding family wealth.
FICs are bespoke structures and tailored to the unique circumstances of each founder and their family members. Essentially the FIC acts as an investment wrapper which accumulates wealth in a tax-efficient manner and can enhance future succession planning.
FICs can come in many shapes and sizes but a typical situation is as follows:
An individual wishes to share their wealth with their wider family in a tax-efficient manner. Instead of contributing the funds to a trust, which could result in immediate charges to inheritance tax, the individual incorporates a new company, with different classes of share to be held by several members of the family. The individual funds the company by way of an interest-free loan and in turn the company invests those funds in a residential property portfolio.
The founder can access funds from the company by way of repayment of this loan at the same time as family members can receive dividend payments, both of which are funded out of the property rental stream in the company which is taxable at low corporation tax rates of only 19% (dropping to 17% from April 2020).
What are the key advantages of an FIC?
- If the FIC invests in property (commercial or residential), the rental income is taxable at only 19%.
- Relief is also available to the company for interest on loans it takes out against the value of its investments. The mortgage interest relief restriction applying to individuals and trustees also does not apply to companies so an FIC investing in residential property, and using loans to acquire those properties, would be eligible for full relief for the interest costs.
- Relief is available for expenses incurred in managing the company’s investments and running its business, including investment manager’s fees. By contrast, individuals are not eligible to claim tax relief on the expenses of managing an investment portfolio. The company can also claim a deduction for salaries and pension contributions paid to or on behalf of the employees or directors.
- Essentially, the FIC will have more post-tax income available to reinvest and generate further income and capital growth than if investments had been held by individuals or trustees.
- If the FIC invests in shares, any dividend income received by the FIC is exempt from corporation tax in the hands of the company.
- Other income and gains realised by the company are subject to corporation tax which is currently 19% reducing to 17% by 2020.
- No IHT on the establishment of the company or the subsequent gift of shares to family members. Unlike a trust, a FIC is not subject to inheritance tax charges on each ten year anniversary.
How can an FIC assist with IHT planning?
- When the company is incorporated, shares can be gifted to family members without incurring any immediate tax charges on the basis that they have little or no value at the date of incorporation. Therefore there are no concerns with capital gains tax. The gift of the shares is treated as a potentially exempt transfer for inheritance tax and therefore all outside the estate of the donor as long as they survive at least seven years. If the donor dies before seven years, it will be the value of the shares at the date of the gift, not the date of death that is brought into their estate and subject to IHT.
- If the donor continues to hold shares in the FIC at the date of death, the value of those shares will be discounted on the sale of those shares. This is to reflect the size of the shareholding and restrictions imposed in the articles or any shareholder agreement. The discount might be substantial meaning that the value remaining in the estate is significantly less than the percentage shareholding.
- If the FIC was funded by way of loan, that loan will remain within the founding shareholder’s estate for IHT purposes. But, they could consider gifting that loan to other family members allowing them to receive tax-free repayments of the loan. The value of the loan would fall outside of the founder’s estate after seven years.
Are there any benefits of FICs beyond taxation?
Yes, the potential benefits of FICs can extend further than taxation.
As a ‘tax-wrapper’, FICs are not subject to the Financial Conduct Authority (FCA) regulations and can invest in a wide range of products including residential property.
The directors have control of the FIC, this not only includes its investment decisions but also when and to whom distributions of profits are made. It’s not necessary for parents to retain a majority shareholding to continue to exercise control.
The articles can also prevent a transfer of shares other than to certain family members or family trusts and the value of the shares can further be reduced by the restrictions in articles and shareholder agreement.
Is a FIC right for me?
An FIC may allow you a means of transferring value to other family members which still permit you the retention of control. However, they are not always the most appropriate and for many families, trusts remain the most flexible and appropriate tax-planning vehicles.