Family Investment Companies (FICs) are gaining attraction among high-net-worth individuals as a preferred option for tax and succession planning.
The Family Investment Company (FIC) remains a one of the popular investment vehicles among numerous families, both in the present and anticipated future. However, it is essential to consider whether these FICs are being established and operated effectively to provide the desired level of protection.
What is a Family Investment Company?
A Family Investment Company (FIC) is a private limited company established to manage its wealth, preserve assets, and potentially pass wealth down to future generations through shares in that company.
FICs can have different classes of share, along with different voting and different economic rights in terms of the distribution of the profits or assets on a winding-up of the FIC. Funding to FICs can be done using cash (or other assets) through share subscription or using debt commonly interest-free loans or a combination of equity and debt.
How Do Family Investment Companies Work?
The founders of the company transfer cash into the company in return for a combination of shares and loans.
In this case, in the company, non-cash assets such as property can also be transferred, but this might attract stamp duty land tax in the hands of transferee or capital gains tax liabilities in the hand of the transferor.
The shares of the company can be gifted to other family members as a potentially exempt transfer (PET). It will not attract inheritance tax consequences on the donor if they Can survive for seven years following the date of the gift. If the gift is made soon after the creation of the company, then there will be no capital gains tax concerns in the hand of the donor.
The parents form or establish a company limited by shares. They own one A-share each. Each A shareholder has the right to appoint one director, as well as the right to vote at Annual general meetings, but they will have no entitlement to any dividends or any return of capital. The children have one B-share each. These B shares have no voting or any other controlling rights but have full entitlement to any dividends or any return on capital, and this must be approved by the parents.
The parents typically use loans to fund the company. The company, which will be under the control of the parents, will acquire assets – anything from property, Jewellery, art, Vehicles, trading companies, etc. which will generate a return. Income is either re-invested within the company, or it can be used to repay the parents’ loan. Any underlying capital value grows in the children’s name.
What are the tax considerations?
Profit made on an investment held in a FIC will be generally taxed at corporation tax rates, which may be 19 to 25% depending upon the case which is lower than if held in an individual’s hands. That is one of the main attractions of an FIC. They allow wealth and property to be passed to the next generation without the implication of IHT as value is passed on creation (the seven-year survivorship rule may apply where FIC shares are gifted).
Company expenses (e.g., bank charges, advisors’ fees, interest, loan repayments, etc.) may help to reduce the corporate tax bill. Capital gains incurred on the disposal of assets would fall to corporation tax rates which are more likely to be lower than the applicable personal tax rates. The Companies can still have the benefit of indexation allowances which may not be available to individuals. Also, it may be possible for the initial loan provided to the company to be repaid tax-free. Most importantly, Dividends received in a group structure may be payable to the holding company without any tax implication.
Note although the transfer of an asset into an FIC might attract CGT in the hand of the transferor, depending upon the CGT position, it will be more effective for the FIC to acquire assets itself after being funded by a loan.
Family investment companies (FICs) can be a valuable tool for wealth management and succession planning.
Our team of experts can help you assess whether an FIC (Family Investment Company) is right for your family and guide you through the setup process.
How are Family Investment Companies taxed?
Family Investment Companies (FICs) are a popular choice for many families due to their flexibility and potential tax advantages.
However, it’s important to understand how these companies are taxed to ensure compliance and maximize benefits.
1. Inheritance Tax on Family Investment Company
If parents survive the usual seven-year rule, the FIC can be tax efficient when it comes to inheritance tax as there will be no IHT on transfer of assets in a Family Investment Companies.
2. Corporation Tax on a FIC
A FIC with annual profits below £50,000 will pay a corporation tax of 19% which is regarded as a small profit rate. FIC with annual profits of more than £250,000 will pay a corporation tax of 25%.
In the case of companies with profits between £50,000 and £250,000, marginal relief provisions will apply to bridge the gap between the two rates.
3. Corporation Tax Relief
The FIC can claim a corporation tax deduction for bank charges and interest on loans that were taken out against the value of its investments, where the loans will be used for the company’s business.
This can be an advantage over individuals who cannot claim relief on interest on loans.
4. FIC and Capital Gains Tax
The Family Investment Company will have to pay tax on any disposals it makes at the standard rate (19% to 25% as the case may be) of corporation tax.
Also, there is an indexation allowance available to reduce the gain chargeable to tax on assets that were held before 1 January 2018.
5. Tax on FIC Dividends
Dividends received by the Family Investment Company are tax-free. There is a tax payable on dividends paid to the shareholders by the Family Investment Company.
However, there is a threshold exemption limit of £ 6,000 i.e., dividend up to this amount may be tax-free, and a follow-on rate starting at 8.75% may make this less of a concern. Even the highest rate of dividend tax is lower than the 45% rate currently applied to trusts.
6. Taxation at the Shareholder Level
Should the Family Investment Company pay dividends, the tax position of the shareholder will depend on his or her individual circumstances.
If the payment causes the dividend tax allowance (£2,000 in 2022–23) to be exceeded, the tax charge will depend on the band of tax into which it falls. In case of the basic rate tax, it will be 8.75%.
If the higher rate, it will be 33.75%, and if the additional rate, it will be 39.35%. Smallish payments to younger adult shareholders may therefore be tax-free. If a future partial return of capital is envisaged at the outset, preference shares can be issued as well, structured so that the timing of the redemption is at the directors’ discretion.
Death of Shareholders
Founder shareholders will need to consider what should happen on their death.
If their voting shares are left to one family member, this will give the younger family member receiving the shares a significant level of control and influence over the FIC, which may be undesirable; equally, allocating the shares across several family members may make effective control and decision-making difficult.
It is also important that all shareholders, whether founders or younger family members, put in place a will. The planning achieved with the FIC can be negated with significant cost consequences if it conflicts with the FIC’s corporate documents or does not consider FIC shares as an asset of the estate. Ideally, the shareholders’ wills should be reviewed at the time the FIC is established.
Examples
Let’s assume that you have £1 million surplus cash in addition to other assets. You have four family members you’d like to pass this cash to split equally. They’re adults, but you think they’re too young to have this now, and you’re also worried about the possibility of bad marriages and divorce further down the line.
If you do nothing and pass away, HMRC will collect £400,000 in IHT on the £1 million, and your family members will receive £150,000 each, assuming your other assets use up your IHT allowance. Sadly, this means that HMRC is your main beneficiary and receives more than your family members.
If we set up a FIC, you can subscribe for, say, £20,000 of A voting shares, and £980,000 of non-voting B shares.
You can then gift the B shares to your family. Provided you survive 7 years, these gifts are free from IHT. It’s also important to make the gifts before the value of the company increases so that you don’t suffer capital gains tax.
You now have a company under your control holding £1 million in cash. This can be used to buy other investment assets or simply earn interest on it.
Conclusion
If you gift assets into an FIC, then this is a potentially exempt transfer for inheritance tax purposes. There is, therefore, a risk that it will be taxed if the parents giving assets die within seven years of making the gift. It is more common to transfer investment assets into the FIC at market value, leaving the purchase price outstanding as a loan owed from the company.
As a result, there is no gift and so no potential inheritance tax charge.
If you transfer a £1 million property into an FIC, leaving the price as an outstanding loan, then the net asset value of the company is zero. This means that the shares in the company are also arguably worth zero, so you do not need to worry about creating growth shares.
When you transfer an asset into an FIC, you may incur capital gains tax on the disposal of that asset.
An advantage of transferring assets into an FIC in return for a loan is that the parents making that transfer can then receive payments out of the FIC as a repayment of their loan, which would not be subject to any tax as it is a repayment rather than income or capital.
You can therefore set up an FIC so that the future growth in the value of the assets should be outside of the parents’ estates for IHT purposes, and any income, such as rent, can be taken back by the parents as loan repayments without a further tax charge to them (but after the company has paid tax on that income).
In a nutshell, it’s a way of having your cake and eating it: giving away future growth in the value of capital assets but without losing the income that they produce.
Whether you’re seeking guidance on establishing an FIC, navigating the intricacies of inheritance tax, or looking for advice on funding and running a successful FIC, we have the expertise to assist you every step of the way.
