Succession Planning in Family Businesses + Trusts

If you run a family business, ensuring the future viability of the business will most likely be one of your top priorities to retain the business for future generations.

A discretionary trust is one way to pass on shares in a family business and offers the protection you would like for the benefit of future generations of the family.

What is a Trust?

A trust is a separate legal entity to you and your beneficiaries, the family members inheriting the business.

When assets , including a business, are placed into a trust the legal owners are known as the trustees, and are usually unrelated to the business and different from the beneficiaries themselves, but do not have to be.

A trust allows your chosen trustees to retain control over the business ,whilst ensuring the business passes on its wealth and income to family members via future dividends and any future capital growth in the value of the shares.

Why a Discretionary Trust?

In a discretionary trust you may have any number of beneficiaries who can enjoy the future wealth and growth of the trust and the trustees have the power to decide which beneficiaries should benefit, as well as when and how they might benefit.

Choosing a discretionary trust means you can protect the wealth of the business from anything that may befall a beneficiary, such as divorce, ill health or death, known as asset protection. There is also huge flexibility in the discretionary trust structure which means you can look beyond the next generation but also consider future generation of family members to enjoy the business’ success. And in terms of tax considerations, there are opportunities for estate and IHT planning, as well as capital gains tax savings.

Asset Protection

Having a discretionary trust in place gives protection of your business asset in case something were to befall one or all of your beneficiaries. All assets in a trust, including a business, do not form part of a beneficiaries estate if they die, for example. Compare this to gifting a family member shares in the business, who then subsequently dies; In this scenario, the shares in the business will be valued as part of the beneficiaries estate and inheritance tax (IHT) may be payable.

Specifically for a family business where the entire shareholding or a majority shareholding is often owned by only family members, a discretionary trust provides a useful vehicle to ensure that shares do not end up in the hands of non-family members, and importantly there is no dilution of a majority shareholding.

A trust can also ensure have the correct legal protection in place via Articles of Association and a Shareholders' Agreement to ensure the ownership of the family business shares remain in the family.

Flexibility of

Discretionary Trusts

A discretionary trust can be created to ensure optimum flexibility to share the wealth from a family business amongst younger and future generations.

The trust has total discretion and control on who, when and how a beneficiary should benefit from the wealth held in the trust itself. So it is the trust and the chosen trustees who have the control and power to share the wealth in whichever way they see fit to beneficiaries; the beneficiaries themselves have no say in the matter and none of the the beneficiaries have the legal right to either capital or income.

Trustees can, therefore, consider individual beneficiary's circumstances, relationships, involvement in the family business, and general tax and other relevant considerations to the benefit of the Trust as well as the beneficiaries themselves.

The trustees can be guided by Letter of Wishes written by the settlor, or the person(s) who created the trust in the first place. Letters of Wishes are not legally binding but are considered as ‘morally binding’ by the Trustees and will play a major part in any decision made by a trustee so as to retain the benefit of flexibility of the trust structure itself.

There is also the option if you wish to give trustees the power to add or remove beneficiaries, a further step in future proofing the business as a valuable asset.

A discretionary trust allows for a succession plan to be put in place whilst postponing the final decision about control and ownership of the shares of the family business to a later date.

Tax Implications of a Discretionary Trust

The two taxes to consider when opening a discretionary trust and placing an asset in it, including a family business , is inheritance tax (“IHT”) and capital gains tax (“CGT”). If managed right, you could mitigate paying these taxes if the trust is set up correctly at the time of gifting the family business to the trust.

Business property relief (“BPR”)

s one such tax relief available when considering gifting shares in the family business. If you are eligible to use this relief, then you could benefit from 100% relief so that no IHT is payable on the transfer of the shares of the business into trust.

To claim BPR the family shares must be held in a private trading company (versus an investment company) and shares owned by the donor or person setting up the trust for at least 2 years. If the donor dies, BPR may still be available if the shares in the business are still owned by the trust. Furthermore, if there are any future changes to IHT or trusts in the future by governments, if qualifying, BPR relief will remain. Again, BPR is hugely valuable as if you qualify, there is no IHT of 40% to pay on the business assets at the time of the donor’s death.

If BPR is not available for IHT purposes, then generally speaking there is a 6% tax every ten years on the value of the shares.

Capital gains tax relief

Capital gains tax relief may be available if a gift of the family business is made to a trust, known as holdover relief, which means there is no CGT to pay at the time the family business moves into the trust.

Normally, if an asset is gifted, there could be a CGT tax bill if the asset gifted has increased in value from the date the donor bought the asset to the date the donor gifts the asset.

Holdover relief essentially defers the CGT payable until a later date. This means that the trust would receive the family business at the value which the donor bought it and any gains in the value are ‘held over' until the trustees sell the shares in the business, if at all.

Good news that holdover relief may be available even when the assets are distributed to a beneficiary out of the trust. Any capital gains tax would only be due in this case if the beneficiary decides to sell the shares rather than gift. This gives the potential for more tax planning opportunity for the individual beneficiary to make the most of their tax reliefs at the time of sale to keep their own capital gains tax bill as low as possible.

We are tax specialists

The tax consequences of making any gift will always depend on the circumstances at the time. It is important to plan as well in advance as possible and seek specialist advice when considering succession planning and gifting shares in a family business. 

Get in touch to see how we can help.