How to preserve your wealth

In this episode, Natalie is joined by Zoe Peck, a Tax Advisory Partner for Mazars, to discuss how different tax structures can be used pre, post, and during the transition of succession. They consider different options available for family businesses to structure their planning in a way that allows them to limit tax leakage and maximise profit extraction without putting the integrity of the business at risk, and whilst also allowing them to protect their long-term legacies.

Show Notes

In the 4th episode of season 2, Natalie is joined by Zoe Peck, a Tax Advisory Partner for Mazars, to discuss how different tax structures can be used pre, post, and during the transition of succession. They consider different options available for family businesses to structure their planning in a way that allows them to limit tax leakage and maximise profit extraction without putting the integrity of the business at risk, and whilst also allowing them to protect their long-term legacies.

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Natalie Wright: You are listening to the Exploring Family Business podcast, brought to you by Mazars. I'm your host, Natalie Wright, head of family business at Mazars UK. And having worked extensively with family businesses for a number of years, I'm keen to support this valuable sector of our society. At Mazars, we believe there is nothing more personal than a family business. Every family and every business is unique. So we look forward to sharing knowledge, insights, and practical tips for those navigating the unique issues that arise from being in business with family. Now, on with this week's show.

Hello, and welcome to episode four of season two's Exploring Family Business Podcast. Preparing to pass on the family business to the next generation is one of the toughest challenges that business owners face. The decisions they make now will have a major and lasting impact on them, direct family members, extended family including the employees and the business. So it's important to get it right, and there really isn't a one-size-fits-all approach.

In the first two episodes of season two, we discussed preparing the family and the business for succession. And in last week's show, we explored the legal arrangements and structures that can be put in place to protect both the business and the family, pre, post, and during the transition of succession. So building on that, this week I'm joined by a colleague, Zoe Peck, who's based in our London office where she leads our tax service for family and privately owned business clients. Zoe supports clients throughout their business journey, ensuring they structure their planning in a way that allows them to limit the tax leakage, maximize profit extraction without putting the integrity of the business at risk, pass on wealth tax efficiently and protect their long-term legacies.

Thanks for joining us today, Zoe. Can you explain more about your role, and more specifically how you work with family businesses who are preparing and transitioning through succession?

Zoe Peck: Thanks, Natalie. Yes, absolutely. My role is first to really understand the ultimate aims of the owners. This can be a really difficult topic for our business owners who, usually, focus their attention on their business, and finding the time to really consider their personal wants and needs can be difficult within some structure and some relevant questions. I've been told this initial stage is a little bit like a therapy session and very cathartic, and apparently enjoyable.

Often, this includes securing their personal financial future whilst commencing the next chapter for the business, whether that's through their family, their staff, externally, or a combination. We'll also need to consider the appropriate timing for any of those changes. My role is then to draw on our expertise and our experience across all of our tax specialisms and internationally, to provide a bespoke plan to achieve those goals tax-efficiently, in a way that provides the relevant comfort to the business owner.

Natalie Wright: Thanks for that, Zoe. I think it is enjoyable and tax hasn't come up before. But no, I appreciate what you mean. And actually, we did discuss with Ross Howarth in episode two, actually, the discussions that you go through and the whole process does become like a therapy session because you are going through elements of grieving almost, for those individuals who are looking to exit a business.

So before we actually get into succession planning and actual strategies, could we take one step back and start with some basics when it comes to actually owning shares in a privately owned family business and understanding how that does interact with tax? Because there have been some significant changes over the last year, I know that there was certainly an expectation that capital gains tax was going to be targeted by the Chancellor in the recent budget. So I think it'd be good, if you don't mind Zoe, just to outline the current landscape and where we are right now.

Zoe Peck: So the starting point is to remember that any privately owned business is likely to have seven UK taxes to think about, and that's assuming we don't have to worry about any overseas taxes as well. So it's important, really, to fully understand how the income tax, capital gains tax, corporation tax, inheritance tax, VAT, national insurance and stamp duties may all interact at any particular time and for any particular route. Usually, the majority of profit is extracted by way of a modest salary, subject to income tax and national insurance. And then, dividends are subject to income tax at a rate of up to 38.1% but without a charge to national insurance.

The capital value of the business is then normally realized through the sale of the business, and subject to capital gains tax rates which are usually 20%, there are some caveats to that. But, with up to one million in 10% instead of 20, due to business asset disposal relief, or most people will know it as entrepreneurs relief. However, entrepreneurs' relief was previously 10 million as a lifetime, as opposed to now the one million, so it's nowhere near as valuable as it was. But, if it is going to be claimed, you need to make sure those qualifying conditions are met. It's one of those reliefs where most people just assume they qualify if they have a business and a company, but this really isn't the case and we see this quite often. It can be appropriate to go to HMRC to get clearance, to provide comfort to our clients where appropriate, that relief does apply to them.

As you say, it's been widely publicized that there is an expectation that capital gains tax rates will increase, and it's far more a case now of when and perhaps how instead of if. It's really led to a lot of questions around what I'll call cashing in on the shareholdings, shareholders wanting to take advantage of those whilst they're still at this level. However, this won't always be the right answer and I'll give you an example that really links in what I mentioned earlier, about making sure you're considering all of the taxes that will be relevant.

So if we consider some shareholders that are more elderly, that own their shares in a nice family trading business, thinking that actually, the right thing for them to do is to take advantage of those low, if I can use that phrase, capital gains tax rates. What they might well be doing is converting an asset that potentially is completely exempt effectively from inheritance tax at the moment into cash, which is not and could effectively have a 40% inheritance tax charge after a perhaps 20% capital gains tax charge. It's important not to consider one tax in isolation and make sure it's going to work for the shareholders overall.

Natalie Wright: I actually had a similar situation recently with a new client, where we were discussing succession planning and that aspect came up. It was almost a focus of, "Well, if we do this now, we'll capture the capital gains tax at this level before there might be any more tinkering with it." But, not thinking necessarily, "But what next?" What other planning might you have to incorporate to then undo the inheritance tax benefits that you had by holding the shares?

I think we'll both agree that it's never advisable to focus all of the planning around tax, and it certainly shouldn't lead the decision-making, let's say. I don't think, in all honesty, it is something that we do see family businesses do in general. But with the capital gains landscape changing so much, and it did used to provide that real incentive for business owners to be entrepreneurial, to take more risk, and knowing that they could benefit from those lower tax rates. So this, coupled with a lot of people really questioning what they want from life after a turbulent, uncertain, and very emotional year, it must be leading to some more conversations around accelerating succession, or perhaps even exit. Have you found that with clients?

Zoe Peck: Absolutely. The conversations are actually rather interesting and varied, but there are definitely are some trends here. The headline would be probably a period of reflection around how our business owners want to spend their time and where, importantly. This might be wanting a better work-life balance, and therefore wanting others to do more in the business, so that might be current employees or family members. That's in order for the current shareholders to have more free time, which has then led on to thinking about perhaps relocation. So, where do they want to have this more free time? And, do they want to do that in a sunnier climate, for example, and who could blame them? Perhaps it might be a fresh challenge, or actually stepping away from the business entirely so they spend more time with family, friends or traveling, or something similar.

All of these thoughts, and trends, and discussions lead us to three particular things I would set out. So predominantly thinking about resident status is somebody either intending or just inadvertently, spending more time in a different country, going to impact on their resident status and how does that impact on their tax efficiency? It can be something that actually helps because of a different regime abroad, or it could be something that is more detrimental to them on a global tax basis. So understanding the impact of that on them and their business is important, to help them make an informed decision. And, help them to manage that.

The second point I would bring out there is to think about the start of transitioning the business to family members of employees. And there, we're thinking about things like tax-efficient share plans and inheritance tax planning as things to consider, in order to make that tax-efficient. Not driven by tax, completely agree with what you said, Natalie, but it's one of those considerations that comes through.

And finally, it's potentially the thought of realizing the value of their business in order to perhaps retire or something along those lines or just spend more time doing other things. That's then really making use of those capital gains tax rates, and considering things like business asset disposal relief to maximize the amount they receive, and then figuring that into their personal inheritance tax planning as well.

Natalie Wright: Thanks, Zoe. I think the points that you'd highlighted there, again, have echoed through in each conversation that we've had in this series. This is, you need to give yourself plenty of time, ideally, to prepare for succession so that you have a much smoother, easier transition. But actually, it's not always possible so at least, if you start succession planning early you have a framework that it can adapt as you need it to adapt, as maybe thoughts and planning do change over time rather than starting with a blank sheet of paper now, as a reactive planning mode.

Whilst tax is part of business and life, I imagine most families don't want to see their hard work and legacy needlessly eroded and depleted through ineffective tax planning. And I know, from working with clients and working alongside yourself, Zoe, and your team, that there are many effective ways to maximize the wealth that the family returns. I know from working with clients and working alongside yourself, Zoe, and your team, that there are many effective ways to maximize the wealth that the family retains, whilst also really providing some protection when it comes to legacy planning and ensuring that the funds are allocated in the right way.

Could we explore a few more strategies in detail? And, perhaps let's start with trusts if you don't mind because I think trusts are really often misunderstood. I do find, speaking with clients, it's largely when someone's heard of a bad experience. But they can be really valuable in a succession plan can't they, Zoe?

Zoe Peck: Absolutely. I completely agree. I think they have a place in two ways, actually. And probably, worth starting off to consider why trusts are used.

I think most people will remember that the taxation of trusts changed many years ago, back in 2006. But actually, they're an asset protection tool, if I can use that word, that's why they're used predominantly, and the tax advantages where appropriate flow from that. I'll talk you through what I mean when I'm talking about asset protection here and the ways in which they can be used for succession.

I'm actually going to start off with thinking about them for employees. The reason I'll start there is, if we think about what I mentioned with asset protection, we can use a trust to hold shares, so protect those shares in a company within which those employees work, for the benefits of those employees. Now, that can be incredibly tax-efficient as a way to move shareholdings from the current business owners to those employees, at a time when perhaps they aren't ready to move them directly. And there are lots of reasons why that won't be appropriate, and I've seen lots of different examples in lots of different businesses where that is appropriate and where that's not appropriate.

Trusts can be a really useful tool to help that succession move from one generation perhaps, to another. Or, to stage it which is often what's needed, because it's very, very difficult to just, as you mentioned earlier, just decide one day, "Right, we're moving on, here you go," to the next generation. Whether they are employees or they are family, it often doesn't work like it, it rarely works like that. Good planning is crucial and trusts can be used in a really good way here, to help that transition through.

There's a couple of different types of trusts that can be used here, an employee ownership trust and an employee benefit trust. I'm sure our listeners will have heard of both, perhaps in different contexts, and as you say, be nervous about them and the way in which they've been used through stories. And where used properly, they are incredibly useful mechanisms to pass that succession down.

The other way of using a trust is more for the family. And when we're thinking about the family business, we're putting shares into perhaps a discretionary trust. There are different types of trusts, but I'll mention the discretionary trust to start with. It can be very tax-efficient for us to put shares within the family business into a trust, because where we qualify for say business relief from inheritance tax, we can potentially have those shares going into that trust without the normal entry charge that we would expect from say cash going in. So it can be a really good way to get those assets into that environment and provide them, then, with the protection that the trust affords. What I mean by that is, again, we're thinking about asset protection here.

Something that is coming up more, and more, and more, probably over the last five years or so, is the question around how do I protect my family business from divorce from my children? And, more thinking way down the line of what happens and often, this is thinking about children who are minors, potentially, not even thinking about a spouse. But of course, all the hard work and energy that goes into building up that family business, we often see shareholders thinking, "I want this to be my family legacy, I don't want it to be split apart or used as a tool, should a relationship break down in future." They can be a really, really good way to help provide some protection in respect of that concern, which comes up regularly.

And as I say, it has some good tax advantages on the way in, and also we can be thinking about how we can use perhaps dividends, or other things that might be flowing into the trust as a result of that shareholding, to provide for the family, and to do that tax efficiently from an income tax perspective by using that mechanism. But predominantly, thinking about it as an asset protection tool as opposed to a tax planning tool. The tax effectively just flows from it in a positive way.

Natalie Wright: Thanks, Zoe. You've clearly demonstrated that trusts can be multi-dimensional but it's not just, again, something that you're buying off the shelf. It can be adapted to you, your family, your needs. But the key thing, really, you need clear objectives so that you structure it efficiently, not just now but also for that long term. And to make sure that, if asset protection is actually a clear objective, it does so in the right way whilst you can maintain, perhaps control still and ownership, but also the tax flow matches what you want it to do as well.

If I can pick up on something, this is something that I've seen as a growing trend, particularly over the last, I'd probably say around two years. And, that's the use of family investment companies. Specifically for family business owners actually, when they do look at exiting a business. I don't think it's really a surprise that we're seeing them used more and more, because business owners understand corporate structures, they can retain control ownership, and ultimately they can still involve other family members. It's almost another family business isn't it but in a different guise. I appreciate it might be new to some people.

Could you just give us a high-level summary of what a family investment company is and why they have become more popular recently?

Zoe Peck: Absolutely. And, I completely agree, Natalie, it's something that people can be a bit fearful of, in respect of the term, thinking it's something a bit unusual. Perhaps not as unusual as a trust because they understand companies, but it does have that fear factor to it. The thing that I would say is it's not a different legal entity here that we're thinking of, or that's been created. It is just a company if we can break it down in that way. But, it's the way in which that company is used that is slightly different to what we would have seen in a normal trading business if I can use that term.

So exactly the same as we would have seen in a normal trading business, with our shareholders who can receive dividends, and those dividends are subject to income tax just as they would have been through normal trading business. And of course, we've got in there, assets that are producing an income. So instead of the assets that will be making things perhaps in a trading business, we've got assets that are perhaps sitting in an investment portfolio, something on those lines, that are invested in things and generating money, just as you would effectively in a trading business. And they will be subject to corporation tax, just as it would have been as a normal trading business.

But, the real way in which these are used, so we've got an investment company effectively, instead of a trading company. So what we don't have is the business relief from inheritance tax potentially, that's unlikely to be achieved in a family investment company where it's just investment. But, what we have got is the ability to think about the shareholdings and how we consider passing the shareholdings onto family members. So when, and how, and what do we pass on, and is that through different share classes, is that through different rights on shareholdings? This again, comes back to asset protection and we're often thinking about what do we want people to have, and what do we not want them to have? And sometimes, the appropriate route is to actually insert a trust there as well, when we've got minor children.

So there are lots of things that are possible here, but really what we're doing is considering the income tax positions. So what dividends are coming out and who are they going to? Who's the appropriate person and how do we structure that, in order to make sure the shareholding sits with the right people? And then, also thinking about the capital value of that family investment company, that asset in and of itself. And who should get that, and how does it grow, and who does it grow with? And again, we're looking at the shareholdings there, to decide who that goes to and when. So they can be really flexible, and I think that's probably the important thing to be aware of and they can be adjusted to fit the appropriate needs of any particular family. This is, I think, why they have become, as you say, more popular because they do provide that ability to flex and change.

And certainly, I think over the last few years, one of the things that have been coming quite a lot is nervousness about having a plan that is then in place for the next 20 years. My advice is you should never have a plan that's in place for the next 20 years. You should have a plan that you've set up, but you keep it under review and make sure it continues to be fit for purpose, and that it builds some flexibility as you go. Or, enables you to flex things as you go, depending on family needs and changing circumstances as well.

Natalie Wright: Thanks, Zoe. I like what you've brought up there actually, around the flexibility aspect, because again I would presume that a lot of people might think, "Well, because it's a company it's company structure and if there are investments within it, we might not have as much flexibility." That's useful to know.

And just picking up on what we mentioned earlier, about the Chancellor brought in some proposed changes again this year, corporation tax rates we know are set to change. How will that affect family investment companies? And, does it still make them viable?

Zoe Peck: Yeah, it's a great question. And obviously, it's a case-by-case basis. But I think in 99% of cases if that changed what was appropriate, my question would be was the planning right to start with, because what we're thinking about here is corporation tax on the income that's generated by the assets that sit within the company. And, as I'm sure you can appreciate, the bigger issue, the bigger tax issue if we put everything else to one side, is actually the capital that is sitting within that family investment company and how that is used. And that hasn't changed, whether it's with the corporation tax rates going up a bit.

The short answer, Natalie, is no, I don't think that changing corporation tax rates going up a few points should change planning. Of course, it's another opportunity to review, check. There might be some slight tweaks to the plan, potentially, of how much is taken out by way of dividends, what's left in there. There might be some small tweaks, but I would absolutely not think that therefore means that this is not appropriate for a lot of clients, where it was for lots of other reasons for those changes.

Natalie Wright: It comes back to, doesn't it, to points that we've mentioned a few times, that it's about having clear objectives. So if you're doing all this structuring purely for tax reasons, you're likely to come undone at some point because you're always chasing those changes. Whereas, if you've got clear objectives and a plan that, yes you keep under review, you can adapt it. And if it was the right thing to set it up at outset, just have some flexibility in there and adapt it as you need to.

If we can come back to succession and transition of ownership if the right planning does involve transferring shares in the family business to the next generation, or perhaps of the members of the team that you alluded to earlier, is it as simple as simply gifting the shares, or selling them either at market value or a discounted rate? You know, I own a business, I've got X number of shares, I've made a decision I want to pass them to this person. Can I just make that decision, or are there tax implications that could cause issues?

Zoe Peck: It can be that simple, you can make that decision. But again, I'll go back to my 99% example. 99% of the time, there are lots of examples where you are going to have an unsuspecting tax charge, or there's going to be a transaction that's going to be subject to a different tax than you expect, quite frankly.

Quite often, one of the ones that we see is that someone's expecting it to be a capital gains tax transaction, so subject to the 20% rules, but there are lots of lovely anti-avoidance provisions in our legislation that says, "Actually, we're going to subject that to income tax," which as you can see, is a very different rate of tax.

So it's really important to understand how your transaction's going to be taxed, whether it can be structured in a slightly different way to make sure it doesn't fall afoul of provisions that tax it in a way that you wouldn't expect, and often, going to HMRC for clearance is something that clients quite like, nowadays. The reason I say that, and there's been a changing attitude actually, over the years, is because I think we've all seen horror stories of clients thinking they've netted X amount and then, HMRC turns up a number of years later and have an argument over a particular tax point. And some of that money that's probably been invested wisely, or put somewhere, is now needing to be withdrawn and that can be quite heartbreaking, actually. So what HMRC clearance does is provide you with that comfort that you've agreed with HMRC upfront that your understanding of the position agrees with their understanding of the position, and that everybody is comfortable with how that's going to be taxed.

There are sometimes examples of where there is a slight discrepancy on a technical point, and what you're then able to do is effectively make some tweaks perhaps, to a transaction that you planned to do, to make sure you don't get any unnecessary tax treatment, where you're able to structure it in a way that is still commercially viable and is appropriate but doesn't fall afoul of sometimes these wide-ranging anti-avoidance provisions.

The one other thing I'll mention, Natalie, is sometimes people don't realize that they're going to be subject to capital gains tax on a gift in the first instance, and that's one of the ones that can come up quite often. There's potentially gift relief and ways to get around that, but making sure it does apply, and how it applies, and whether everything is covered is one of those points that can be really important. And again, a bit heartbreaking if a client finds that out after the event, so I would definitely say check it before you do anything.

Natalie Wright: Great. Thanks, Zoe. I think you've outlined there exactly why you need to take advice before taking action, because not only can it limit the tax charges and any leakage, but it can also provide you with that security and peace of mind.

So finally, can we come onto some obvious pitfalls when it comes to succession planning and planning tax efficiency that you've come across in the past? I'm sure you have seen some. But, if there are any specific pitfalls, or opportunities actually, that could be exploited but are really often overlooked?

Zoe Peck: Yeah, absolutely. I really like that phrase actually, Natalie, "take advice before action," that's a really good phrase.

To be honest, there are lots of things that come up, like I mentioned earlier, where people expect it to be one tax and it's another, and all sorts. But I think, honestly, my overriding top tip would be don't wait too long before you get advice. I think, time and time again, the best plans, the ones that really meet all of those wants and needs of the owners, and then secure all those tax efficiencies as well, are the ones that start the conversations early. And, I mean when I say early, far before they really probably even know what they want to achieve.

I think a lot of family business owners, there's a fear of starting that conversation, and there's a fear of not knowing what it is they want to achieve and a fear of not knowing what options are available. And honestly, time and time again, I hear a reluctance or almost a shame, actually, I'm going to use that word, because they don't know what the options are and they think they should know, because they've been in business for 20-odd years, or 50-odd years in some cases. There's almost an embarrassment about, "I've never done this before, I haven't thought about it," and you hear it time and time again, and they put off having those conversations. There's no need at all to feel that way.

Nine times out of 10, these family business owners we're completely used to have never done this before, and you're taking someone through that journey with no understanding of how it all works. Because normally, this person is an absolute specialist in their particular business, which we will not understand. When I say you go on that journey, you learn a lot about the business and how to do that, and they will learn a lot about the succession at the same time. I think it's taking away that fear, taking away that nervousness, someone's not going to expect you to have the answers. And that actually, you can go on that journey together with your advisor. The earlier you start that, absolutely the better the solution in respect of meeting wants and needs.

The other thing I will say there, which is really not a tax thing but it's actually a joy to watch, is seeing how someone can actually make their mind up about what they want to do, and how they want to spend their time and where they want to be, and going on that journey over a period of months into years, and then feeling much happier about the decisions they're making for themselves and for their families. It's a privilege to be able to be on that journey with them.

But yeah, my top tip is just have those conversations, start it going. You don't need the answers. Just open up your mind, I guess, to understanding what's available to you, so you can make the best decision for you and the people that are important to you.

Natalie Wright: Thanks, Zoe. Yes, I completely agree. It is a privilege working with families and families in business, and as you say, it is a joy to watch as well when you see things unfolding and in a way that actually meets everyone's objectives.

But, thank you so much for today, Zoe. I'll leave your contact details in the show notes, for anyone who may want to reach out with any queries. And, that brings the fourth episode of the Exploring Family Business Podcast, season two to a close. If you enjoyed today's show, please subscribe to the series and leave a review on iTunes. It will help us to extend our reach to the family business community.

Join me next week when I'll be speaking with Paul Joyce, a mergers and acquisitions advisor, and partner at Mazars. Over the last year, Paul's team has seen a growing trend towards the use of employee-owned trusts and employee benefit trusts, particularly for family-owned businesses. We will be discussing why they've become more popular, the opportunities they present as well as some of the pitfalls. I look forward to sharing more with you then, but for now, thank you for listening.

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Natalie Wright Managing Partner Leeds – Head of Family Business Leeds

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