How to avoid losing 40% of your business sale – top tips to reduce inheritance tax immediately

How to avoid losing 40% of your business sale – top tips to reduce inheritance tax immediately

There is a huge amount of excitement when you sell your business. A feeling of well-earned euphoria. Your business advisers, solicitors and accountants have worked hard to keep taxes low on the sale proceeds. A large cash sum is in your bank account. You can relax now. Unrealised by you, the company you sold was exempt from inheritance tax (IHT) due to business relief (BR). The cash in the bank has no such protection. It forms part of your taxable estate on death, with a tax liability of 40%.

Imagine selling for £10 million after taxes, only to realise that HMRC may keep £4 million on your death, leaving £6 million between your three children. Each child gets £2 million but HMRC gets £4 million. Ouch! This is a simplified example to illustrate the tax effect, and your personal circumstances will be different.

To appreciate how this can happen and what you can do about it, it helps to look at the basics.

Business Relief 

As the owner of your trading business for at least the last 2 years, and the majority shareholder, your shares qualify for 100% BR as ‘relevant property’.

On your death, the value of your business (the shares) do not form part of your taxable estate and can be transferred free of Inheritance tax.

Don’t think that HMRC are being unduly kind to you. The reason is that companies were often broken up when the owner died, simply to pay the Inheritance tax bill. That wasn’t good for the owner’s family, the employees, suppliers, customers and the economy in general. Business relief came about in 1976, over 40 years ago, so is tried and tested.

Business relief – the rules and conditions 

Not every business or owner qualifies for business relief (BR). Here is a simplified list (your company accountant will be best placed to explain the details in full).

  • Applies to the value of your controlling shares in an unlisted trading company
  • A share of a trading partnership
  • A business you own and run yourself
  • Assets must have been owned for at least 2 years


BR is not available in respect to a business, or shares in a company that is:

  • Not carried on for gain
  • Subject to a contract for sale (important, see below) or being wound up
  • Wholly or mainly dealing in securities, stocks and shares, the holding of investments, or land and buildings
  • A property letting business – commercial or residential
  • Dealing in property
  • A serviced office business

Some activities sit in the grey area and may need further investigation:

  • Caravan parks
  • Farming and letting mixed estates
  • Property management and property development
  • Holiday businesses

What about cash in a business?

You need to be careful about the amount of cash your business holds. This is a technical area. In general, is the money for a future business use, or is it being stored away and sheltered from IHT?

HMRC has confirmed that, unless there is evidence showing that the cash is being held for a specific identifiable future purpose, it is likely to be treated as an excepted asset for BR purposes. HMRC stated that holding surplus cash to ‘weather economic difficulties is not sufficient reason’ to prevent the cash being treated as an excepted asset.

Beware the ‘binding contract for sale’ trap 

There is often a period between signing your binding contract for sale and receiving the cash proceeds into your bank.

As the business owner, you may believe that your business still qualifies for 100% BR. Sorry, not the case. For IHT purposes you have given up your qualification by signing the contractual terms. You now own the right to the sale proceeds.

One or two quick signatures is all it takes. Your BR is lost and the Inheritance tax liability on your estate has just grown before you even see the cash.

Serial Entrepreneurs 

Some business owners just can’t stop. Having sold one business, they want to create another one from scratch and go again.

You have 3 years to find another qualifying business and when you do, your BR kicks right in. No 2-year waiting period.

If 3 years isn’t long enough to find the right business opportunity, there are specialist tax-advantaged investments that you can invest all or some of your cash sale proceeds into. Invest in the 3-year window and the qualifying investment becomes IHT-proof without the 2-year delay.

A potential investment is the EIS (Enterprise Investment Scheme) which is a separate topic and not for this blog.

When the business opportunity arrives, you can sell your investment (liquidity and access permitting). These Inheritance tax-planning investments can be highly complex and great care should be taken. Always seek professional advice before investing.

As you can imagine, qualifying for 100% BR is a powerful tool in your toolbox. There are some more powerful tools to reduce the tax liability on the sale of your business.

Entrepreneurs relief – how to save up to £1,000,000 

When you sell your business, the expectation is that you have made a profit. Hopefully a very big profit. In the UK profits are subject to capital gains tax (CGT) at a rate of 10% or 20% (18% and 28% for property). A big business sale means 20% CGT.

To support entrepreneurs to create new businesses, employ people and generate taxes (VAT, national insurance, income tax, corporation tax), advantageous terms were introduced based on the sale proceeds (the incentive).

For younger entrepreneurial readers, it is worth noting that CGT rates were once much higher than they are today. The relief itself was introduced in 2008 at £1 million, and has since increased to £2 million, then £5 million up to £10 million.

Qualifying business sales, up to £10 million in value, are only subject to CGT at the 10% rate, irrespective of the personal tax rate of the owner(s). For sales of £10 million and above, this relief is worth £1 million. Sale proceeds in excess of £10 million are taxed at 20%.

If you were selling property for example, the CGT rates are 18% and 28%.

Entrepreneurs Relief – the rules and conditions 

You must qualify and meet the rules to benefit. Here is a simple guide (the same rules apply regarding your accountant or tax adviser):

  • The allowance applies at an individual level, so £10m is the maximum you can claim per person, rather than for each business you sell
  • You are a sole trader or partner selling part or all your business or its assets
  • You control at least 5% of the company’s net assets and are entitled to 5% of its distributable profits
  • You sell assets from the business within three years of closing
  • Entrepreneurs’ relief doesn’t apply to property portfolios held within a company structure so if you are a portfolio landlord you can’t claim
  • You need to have been in qualifying circumstances for at least 24 months (from 6 April 2019). You can’t buy or inherit a business and then immediately sell it
  • If you are selling part of a business, then that part of the business must be capable enough of carrying on as a ‘going concern’ and be commercially viable. If you sold loss-making bits of your business, without the means to continue funding it, this wouldn’t qualify.

What about a family business? 

If you have created a very valuable business with your legal spouse or partner, so long as they qualify as a director/employee of the business and pass the 2-year rule, you can gift company shares to them. No strings attached of course, it’s a gift. If the business can sell for £20 million or more, you may each qualify for the maximum £1 million relief.

Are there any traps?

Be careful when selling. You may be offered ‘paper’ in the buying company instead of cash. If the buying company is big, which it probably will be, your paper share is likely to be below 5% of the share capital. It probably won’t have 5% of the voting rights either.

When you later dispose of the shares, the proceeds will likely fail to qualify for entrepreneur’s relief.

Previously, in order to qualify for Entrepreneurs’ Relief, you must have held shares which represented 5% of the ordinary share capital, tested by nominal value of shares, and which entitled you to 5% of the voting rights. From 29 October 2018, the shares must also entitle you to 5% of the company’s distributable profits and 5% of the assets available to equity holders on a winding up.

This change ensures a shareholder must benefit from a genuine economic entitlement to 5% of a company in order to qualify for Entrepreneurs’ Relief. The intention of the change means it is only claimed where an individual has a material stake in the business.

The new legislation means that shareholders will need to continually monitor their position to ensure they qualify for Entrepreneurs’ Relief. Special consideration will need to be given to any companies which have issued preference shares, or who have incentivised key management with ‛growth’ shares.

How to protect your wealth from inheritance tax 

The good news is that you have successfully sold your business for a large sum of money. The cash is now sitting in an account at your high street bank. Problem.

Your bank contact is now chasing you to come in for ‘investment advice’ with one of their in-house team. Are these strangers the right people to properly invest your money?

You are also well above the FSCS threshold of £85,000 (there is enhanced protection of £1 million for 6 months post-sale). What if something serious happens to your bank? More reasons to worry.

Aside from those concerns, you have a huge Inheritance tax liability if you (and your partner/spouse if you have one) die.

There are several investment options available which may, over time, help to reduce your IHT liability. The problem is, do you have time to weigh up the pros and cons and tie up your money? No sooner did you get the cash from the sale; you are now being asked to hand it over to another unknown (to you) financial concern. Where’s the fun in that?

An umbrella solution 

One option is to insure yourself against the new IHT liability, to give yourself and your family some breathing space. Time to think, plan and prepare. Calmness.

If you and your partner are in good health, a joint life second-death insurance policy should be easily affordable.

If married or in a civil partnership, on a first death, the partner can inherit IHT free. The tax liability arises on the second death. The insurance policy should be in a trust for your beneficiaries. If it isn’t in trust, the death proceeds are added to your taxable estate making the problem worse, not better.

Your beneficiaries (probably your children) on the second death receive the insurance proceeds Inheritance tax-free and then have all or most of the money required to settle the IHT bill. The policy doesn’t reduce your estate, it simply provides the cash to pay the tax bill.

While this policy ‘umbrella’ is in place, you have time to engage with a financial life coach who can realign your wealth to meet all your plans and needs. The financial life planning process can easily take years if done well. There is no rush.

In the excitement of a company sale it is easy to be distracted. There are a host of vested interests for the sale to proceed. Try and avoid being ground in the gears of commerce. Find a trusted coach who is unconnected with the sale and seek their counsel.

If you would like a calm and rational conversation about your business, come in for a coffee. Contact us today and we will be delighted to meet you.

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