What a relief - April 07

During your lifetime there are two principal ways of reducing the eventual impact of inheritance tax (IHT) on your estate (aside from the obvious one of just spending your money and having a good time).

The first is to make gifts of your assets so that there is less there to be taxed on your death (“asset reduction”).

The second is to convert the assets you hold into those which qualify for tax relief, so that they are not charged to IHT on your death even though they may be very valuable (“asset conversion”).

For those wishing to make gifts, but reluctant to allow their intended beneficiaries immediate and unrestrained access to assets, the option to place money or property into a trust has, until now, been highly attractive. However, in the 2006 Budget the Chancellor announced tax changes which limit the amounts which can be transferred into lifetime trusts without an immediate IHT charge. While an outright gift to another individual will still be a potentially exempt transfer escaping IHT if the giver survives for seven years, a transfer to a trust will not. Gifts into trust which take the giver over his IHT threshold (£300,000 from 6 April 2007) will be immediately taxable.

As a result, those with substantial assets are likely to shift their focus to the idea of asset conversion, and endeavour to hold assets which qualify for tax relief (essentially agricultural property or business property).

For those already involved in farming or other businesses, the challenge will be to ensure that they comply with the strict conditions which attach to the reliefs. Owners of farm land, for example, should check that any letting arrangements do not prejudice their entitlement to the full rate of agricultural property relief (APR), and business proprietors should ensure that any investment assets held on the balance sheet do not rule them out of business property relief (BPR).

If you have no business interests of your own but your son, for example, owns his own business and needs an injection of capital, then you could consider becoming a shareholder in his company and your investment could qualify for 100% BPR within two years.

If you did not fall out with him you could then leave your shares in the company to your son free of IHT in your Will. A gift of cash, on the other hand, will only escape from IHT if you survive for seven years and in the meantime you will have lost control over your asset (and possibly your son).

Even for those with no family involvement in business, BPR is available for unquoted shares in trading companies. While this rules out large FTSE companies, it does not preclude smaller companies listed on the alternative investment market (AIM). These tend to be higher risk shares, which are less easy to trade, and are certainly not suitable for every investor, but for some, investing in a diverse portfolio of such shares offers the prospect after two years of IHT relief without having to part with control of their assets.