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Business relief

Business Relief (formerly known as Business Property Relief) reduces the value of business property for inheritance tax. It's available on the transfers of business asset during lifetime or on death. To qualify the business asset must usually have been owned throughout the two years prior to death or transfer.

Relief is given to ensure that following the death of a business owner, a family-owned business can survive as a trading entity without having to be sold or broken up to pay an inheritance tax liability. But it's also available to private investors who invest in qualifying businesses. 

Investing in shares which qualify for business relief is a popular estate planning option. It has two key benefits over more traditional gifting as a means to reduce the estate.

• The investment will be outside the estate after two years rather than seven years for gifts which are PETs or CLTs
• The investor retains access to the investment and any dividends which are paid

However, these benefits must be balanced against the increased investment risk of investing in smaller unlisted companies and the risk that business relief may be withdrawn if in the future the business no longer qualifies - for example, if the business becomes publicly listed.

Rate of relief

100% relief:

• A trading business or interest in a trading business (includes sole traders and partnerships)
• A holding of shares in an unquoted company generally smaller companies not listed on London Stock exchange  (including Alternative Investment Market (AIM) companies)
• EIS investments

50% relief:

• A controlling holding of shares in a quoted company - i.e. where the individual controls more than 50% of the voting rights
• Land, buildings, machinery or plant used wholly or mainly for the purposes of the business carried on by a company or partnership

Business relief is not available on:

• Investment businesses -  there's no relief where the business wholly or mainly  deals in securities, stocks and shares, land or buildings, or making or holding investments, including shares in a company which carries on such a business.
  
  This means relief is not available to landlords with rental property and furnished holiday lets, unless the level of additional services provided is so high that the activity is deemed to be a trading activity. Specialist advice is required in this these cases.
• Excepted assets - assets which have not been used wholly or mainly for the purpose of the business throughout the two years before the transfer and are not required for future use in the business are ignored when calculating the amount of relief available. A typical example would be large reserves of cash in excess of any reasonable business requirements, or any other investments held by the business, e.g. Bonds or OEICs.
• Businesses that are subject to a contract for sale or being would up, including assets subject to a Buy and Sell Agreement.

As announced in the Autumn Budget 2024, from April 2026, only the first £1 million will get 100% relief on the combined value of qualifying agricultural and business property. For qualifying assets over £1 million, relief will be given at 50%, resulting in an effective rate of 20%.

Shares which aren't on recognised stock exchange, including AIM shares, will be subject to relief at 50% on the entire holding and will not count against the £1 million allowance.

The new rules will also apply to lifetime transfers from 30 October 2024. This means a gift of AIM shares before April  2026 will be a failed PET if the donor does not survive for seven years and relief will be restricted to 50%. 

Ownership period

To qualify for business relief an asset must have been owned for two or more years.

However, where a widow(er) inherits business property on the death of their spouse/civil partner, the surviving spouse’s ownership period is deemed to commence when the deceased spouse acquired the asset.

This does not apply if the asset was transferred to a spouse during lifetime. In these circumstances, the spouse will not quality for relief until they've personally owned the asset for two years. 

Replacement property

If an asset which qualifies for business relief is sold, the relief can be maintained if the asset is replaced by the purchase of a new business asset. The two year ownership period is not reset if the sale proceeds are used to purchase a replacement asset within three years of the sale of the original asset.  

Business relief continues to be available if the combined ownership period of the original property and any replacement property covers at least two out of the five years immediately before transfer/death. If the individual dies before the replacement asset is purchased business property relief will be lost.

Where one or more replacements have been made during the five years period, the amount of relief cannot be more than what it would have been had the replacement property not been made. 

HMRC take the view that if the value of the original asset is lower than the value of the replacement asset, the excess won't be automatically eligible for relief and a new two year period will start on the excess. This is an anti-avoidance provision and its purpose is to prevent a person who has qualified for relief from purchasing a more expensive business asset shortly before death or making a transfer.

Gifting business assets

Often the principal consideration when gifting business assets is to ensure the continued smooth running of the business when the business owner retires or dies. Particularly for family businesses, ensuring that the shares and voting rights remain in the hands of the key decision makers may be of critical importance. This may mean that tax planning is secondary to business succession planning.

Where the business assets are held as an investment, such as in the case of AIM shares, tax planning may be of greater importance. Although there's no IHT payable on shares which qualify for business relief, their value is included in the ‘net estate’ which can affect eligibility for the residence nil rate band (RNRB).

Gifts to individuals on death

No IHT will be payable on death if the assets were owned by the deceased for at least two years prior to death. 

The individual who inherits the business assets will immediately benefit from business relief on those assets provided the two year ownership period had been met on the death of the original owner and the asset still qualifies as a relevant business asset.

Where the deceased had not met the two year ownership period and susequently no business relief was available on death, the two year ownership for the new owner of those assets will commence from the date of death. The exception to this is where the assets are inherited by a spouse or civil partner. In these circumstances it is possible to use the combined ownership period to determine eligibility.   

Lifetime gifts to individuals

Lifetime gifts of business assets can benefit from business relief provided they were owned by the donor throughout the two years before the transfer. This means business owners don't have hold on to the qualifying assets until their death to obtain relief. 

However, relief is withdrawn and the gift becomes a failed PET if the donor dies within seven years of making the gift and the recipient no longer owns the asset or the asset no longer qualifies for business relief.  These rules do not apply to lifetime gifts to spouses or civil partners, which are covered by the spousal exemption. A new period of ownership starts from the date of the gift and the spouse receiving the gift won't quality for relief until they've owned the asset for two years.

Gifting to discretionary trusts

IHT on lifetime transfers

Assets which qualify for business relief are not subject to IHT so generally there's no IHT benefit of transferring them into a discretionary trust. However, there may be other motives for doing so, such as:

• Retaining the residence nil rate band by bringing the value of the net estate below the £2M taper threshold
• CGT deferral on disposal of the assets by claiming holdover relief – however, this would result in the loss of CGT Business Asset Disposal Relief (formerly known as entrepreneurs relief)
• Asset protection or control which may be important if the assets are shares in a family business

There’s no IHT payable when qualifying business assets which attract 100% relief are transferred into a discretionary trust. This means that there is no need to limit the amount transferred to less than the available nil rate band to avoid a 20% lifetime IHT charge. However to avoid the settlor being assessed to IHT on their death, the trustees must retain ownership of the business assets (or any replacement business property) for seven years or until the death of the settlor, if earlier. 

Transfers to discretionary will trusts

No IHT will be payable on the transfer of qualifying business assets (which qualify for 100% relief) into a discretionary will trust. The transfer of the assets into trust doesn’t use any of the deceased IHT nil rate band, meaning it remains available to use against other assets in the estate.

Periodic charges 

Trustees will have to satisfy the two year ownership period on any business assets within the trust before they qualify for relief. Business relief reduces the value of the business property for the purpose of the ten yearly periodic charge calculation. Therefore, if the only assets in the trust at the ten year anniversary are assets which qualify for 100% business relief, there will be no periodic charge.

Exit charges

Where qualifying business assets are transferred ‘in specie’ to a beneficiary, there will be no exit charge when assets which attract 100% relief leave the trust.

However, exit charges may apply if the assets leaving the trust no longer qualify for relief. This may be the case if the trustees sell the business assets prior to the distribution or the business assets are paid to a beneficiary before the trustees have satisfied the two year ownership period.

Exit charges are based on the IHT effective rate at the previous 10 year anniversary or, for exits in the first 10 years, the ‘deemed effective rate’ when the trust was created.

The deemed effective rate is based on the value of the trust property immediately after the trust was established. At that time the trustees would not have held the business assets for the required two year qualification period and consequently business relief is disregarded when calculating the deemed effective rate which would apply to non-qualifying assets.

After 10 years, if there was no charge at the last 10 year anniversary because the trust property qualified for business relief, there should be no exit charge when capital is distributed to the beneficiaries.

Interaction with Residence Nil Rate Band (RNRB)

The residence nil rate band (RNRB) provides additional nil rate band where someone leaves their main residence to their direct descendants on death. However, the RNRB begins to be tapered once the net value of the estate is more than £2M. £1 of RNRB is lost for every £2 over this limit.

The value used for tapering purposes is the estate (including the value of any settled property which the deceased held a qualifying interest in possession, such as immediate post death interest trusts) after any liabilities are deducted, but before any reliefs or allowances are applied.

So while there’s no IHT on assets which qualifying for 100% business relief, they could result in the loss of the residence nil rate band as the relief is ignored when determining whether the taper applies to an estate.

Lifetime gifts to avoid tapering

Lifetime gifts (including death bed gifts) aren’t included in the net estate for tapering of the residence nil rate band. Gifting qualifying business assets, either to an individual or to a trust, can reinstate the RNRB if the net estate is reduced to £2M or less. However, individuals making lifetime gifts need to be careful that the gift doesn’t affect business relief. The recipient of the gift must retain ownership of business assets (or replacements) for seven years, or until death if earlier, for relief to remain available on the initial gift.

Will planning

If business assets are inherited by the surviving spouse it could lead to the RNRB, including any transferable RNRB from the first spouse, being tapered on the second death. If the business assets are placed in a discretionary trust, the spouse can be included as a potential beneficiary if needed, but it would keep the business assets outside of the estate for tapering purposes and may help retain the RNRB.

If the surviving spouse is given a life interest in qualifying business assets, the holding will immediately qualify for business relief, as long as the holding is maintained. However, they will be taken into account when determining the availability of the life tenant’s RNRB. When qualifying business assets are passed to the remaindermen of the trust, a new two year ownership period will start. 

ISAs holding AIM shares

AIM shares can be held within stocks and shares ISA. These shares typically qualify for business relief after two years of ownership which means the ISA would be free of IHT.

The two year ownership period will apply where AIM shares are purchased with new subscriptions or existing funds are switched to AIM shares within an ISA. The replacement property rules will apply where qualifying AIM shares are sold and repurchased within the ISA, meaning that the ownership period does not reset when the shares are purchased by the ISA manager. However, if the client instructs the ISA manager to repurchase more shares than the original amount sold, any additional shares must start a new two year period.

Borrowing to acquire qualifying business assets

It’s no longer possible to reduce the value of an estate for IHT purposes by securing a loan to acquire property qualifying for business relief.

Where money is borrowed to acquire assets qualifying for business relief, the amount of loan firstly reduces the value of the assets that qualify for relief. This is the case regardless of whether the loan is secured against the business assets. Business relief is given against the net value of the asset after deduction of the loan. Any remaining value of the loan can be set against any other assets that are chargeable to tax, as long as the loan is repaid on death.