When should you set up a family investment company?

If you are a business owner or high net worth individual, then wealth management and planning for future generations and family members will be a key consideration for you.

As part of tax and succession planning, you should consider using a Family Investment Company to pass on wealth in a tax efficient manner to the next generation. But when should you set up a family investment company?

In this blog, we tell you all you need to know about family investment companies and how they work.

Understanding Family Investment Companies

What is a Family Investment Company?

A Family Investment Company (FIC) is a private company that is controlled and run by its directors (usually the parents or grandparents), with the parents and other family members owning the shares.

Who would set up a Family Investment Company?

Family investment companies are popular with business owners, high net worth individuals, entrepreneurs and directors that are higher or additional rate taxpayers with companies, portfolios of property and investments, where their estate may be subject to a large inheritance tax liability. Family Investment Companies also work well for family businesses.

Those with only a small potential IHT liability are unlikely to set up and use a family investment company.

Seek advice from a professional tax advisor, such as dns accountants before deciding on setting up a FIC.

When should you set up a Family Investment Company?

You should consider setting up a family investment company as part of your wider wealth and tax planning undertaken with your advisors. As with all tax planning, don’t leave it until the last minute to consider your options on passing your wealth and assets onto family members. You never know what may happen in the future and if you want to protect your family’s wealth for future generations, then you need to begin planning as early as possible.

How does a Family Investment Company work?

A FIC can be used by the individuals who want to transfer value or transfer assets to family members (or other individuals) but retain control over the assets.

A FIC is normally created with limited liability due to the advantages this can present for shareholders, however, it is possible for a family investment company to be established with unlimited liability.

The FIC can be incorporated with different classes of shares. Each class should have the same voting rights. The different classes will allow greater flexibility in how and to whom dividends are paid.

A FIC can be made up of different structures, ownership, and assets.

A FIC is a very bespoke way to deal with your family’s structure or complexities because it offers so much flexibility.

How do I set up a Family Investment Company?

Firstly, you need to decide what type of company to set up and where it should be incorporated.

For people based in the UK, this will often be a UK limited company set up, although unlimited companies may also be used.

For those planning to leave the UK or internationally based families there is an option to incorporate an overseas company but make it UK resident by appointing UK directors. In this scenario, the company shares are a non-UK asset for inheritance tax purposes and the company ceases to be UK resident once it is no longer managed and controlled in the UK. Note: There may be an exit charge when the company ceases to be UK resident.

Creating a family investment company is usually done with a founder share held by the individual providing the capital or by transferring assets into the company. You need to be aware if transferring assets (depending on the types of assets), and whether this has tax consequences for Capital Gains Tax (CGT) or Stamp Duty Land Tax (SDLT).

The founder shareholder normally maintains control over the investments (or appoints an adviser to do so). They also control the payment of dividends and return of capital. This can be done by separating voting rights or within the Articles of Association and a shareholders agreement.

When the family investment company is created, family members and family trusts are brought in as shareholders and different classes of shares can be issued.

Tax implications of a Family Investment Company

There are a number of tax implications that need to be considered before considering using family investment companies for future generations. However, if set up in the right way, a family investment company can offer significant tax advantages to families.

Inheritance tax

One of the main advantages of family investment companies are the IHT benefits.

For inheritance tax purposes, shares gifted during a shareholder’s lifetime will be treated as potentially exempt transfers (PETs) and will escape an IHT charge if the donor survives seven years.

In contrast, a gift to a trust will give rise to an immediate IHT charge at 20% (to the extent it exceeds the donor’s nil rate band).

Inheritance tax planning with FICs can be an extremely tax-efficient way of passing on the shares in the FIC to other family shareholders or new family members. The shares in the FIC will ultimately not benefit from any inheritance tax (IHT) reliefs upon death, such as business property relief (BPR), due to it being an investment company, not a trading company.

Corporation tax

Other income in a FIC, whether interest or rental profits, is subject to pay corporation tax. The corporation tax rate is 25%, compared to the maximum income tax rate of 45%. (Note: the small profits rate of 19% does not apply to ‘close investment holding companies’ which will include many FICs).

If you are using an FIC to house property, then rental profits in the company are taxed at preferential corporate rates and companies still have the ability to deduct any loan interest from the rental income which is now being restricted for personal investors.

The company will be able to claim a corporation tax deduction for interest on loans taken out against the value of its investments, where the loans are used for the purposes of the company’s business.

Expenses incurred by the company in managing its investments and running its business will be eligible for corporation tax relief. This will include remuneration paid to employees/directors and investment managers’ fees.

Income tax and dividend tax

The company wrapper shelters the investments from income tax until the funds are extracted from the company.

When profits are extracted, the shareholders will be liable to income tax and/or dividend tax on any amounts received. However, salaries and dividends paid to the shareholders can utilise personal allowances and basic rate tax bands.

Where the FIC holds an equity portfolio there may be no tax at all as dividend payments are often tax free from company to company. This can increase the return on the investment significantly.

The FIC structure is of most benefit where the capital and income can be retained within the company for long periods, or used as a structure to pass on to the next generation in the same way you would use a trust.

Capital gains tax

Transferring assets can have separate tax consequences particularly around capital gains tax or Stamp Duty Land Tax where property is involved. In some cases, these costs mean the creation of the FIC structure prohibitive.

As with income tax, any assets sold within the company would be charged at corporation tax rates rather than Capital Gains Tax (CGT).

Companies do not benefit from the annual Capital Gains Tax (CGT) exemption given to individuals, which is currently £6,000.

Non-cash assets will be deemed to be transferred at their market value, so a capital gains tax (CGT) charge may arise on the difference between their current market value and the original cost. However, such transfers can be staged over several tax years to maximise each year’s annual CGT exemption.

Where the asset disposed of is shares in a subsidiary company, Substantial Shareholdings Exemption may be available to exempt the gain. Detailed conditions will apply, so seek professional advice.

Stamp duty land tax (SDLT)

If property is transferred, stamp duty land tax (SDLT) would also be payable by the company, based on the market value of the property. If the property is residential, a 3% additional SDLT rate would be levied on top of the normal SDLT rates.

Family Investment Company vs trusts

A Family Investment Company (FIC) is an alternative method of inheritance tax planning by allowing income and gains to be distributed among family members in a tax-efficient manner, whilst you retain control of the assets.

A trust is a legal vehicle that allows you to transfer assets into a trust for the benefit of others. Trustees are responsible for administering the trust. A trust is a company established to hold a family’s investments, for example, shares in other companies, investment property or share portfolios often without the tax penalties.

Depending on your needs and circumstances, a trust may be more effective at asset protection, but a Family Investment Company offers more flexibility in managing and distributing wealth.

Ongoing responsibilities and obligations

It is worth noting that setting up a Family Investment Company will mean that there are ongoing responsibilities and obligations, including Companies House filing requirements, such as annual accounts.

Is a Family Investment Company right for you and your family?

Before recommending or setting up a family investment company, a professional tax advisor with a wealth management understanding should aim to understand your family’s future objectives. Careful tax planning should be undertaken initially the tax consequences at every stage of the FIC’s existence and operation.

How dns can help

Here at dns accountants, our team of tax experts is ready to assist you with all your tax planning needs including advising on and setting up of a family investment company and tax efficient wealth management. There are many tax considerations when looking at setting up a family investment company, so you should seek professional advice before taking any action.

Call us today on 03300 886 686, or you can also e-mail us at enquiry@dnsaccountants.co.uk.

About the author

Gary Zouvani
I am a qualified chartered management accountant with over 25 years’ experience working in industry and accountancy practise. Currently DNS group operations director I manage over 50 employees as well as head up our accountancy franchise proposition.