About FICs

UK Inheritance Tax (IHT) is a major issue for individuals who are UK-domiciled or who hold assets within the UK. This will include many expatriates, even if they have been non-UK resident for many years. IHT applies at a rate of 40% on the total value of a worldwide estate above the tax-free threshold of £325,000 (the ‘nil-rate band’).

‘Potentially Exempt Transfers’ (PETs) enable an individual to make gifts of unlimited value that become IHT exempt provided that the donor survives for seven years from the date of the gift. Care must be taken that the transferor does not continue to receive a benefit from the gifted property, or the ‘Gift with Reservation’ (GWR) rules can be applied and the property will still be liable to IHT on the transferor’s death.

A ‘Family Investment Company’ (FIC) provides a mechanism for retaining control of assets while their value, or most of it, can be transferred away. In addition to IHT benefits, FICs can also offer substantial income tax and capital gains tax benefits.

Shares generally have three distinctive characteristics: voting powers, the right to receive income in the form of dividends, and the right to capital (e.g. ownership of the underlying assets). It is, however, possible to create shares that carry only one or two of these characteristics and it is this flexibility that enables an FIC to minimise IHT exposure.

A FIC is a private company. The structure of a FIC can have many variations but, in a typical scenario, an individual could transfer assets into a FIC in return for its shares, which might be divided into three different classes:

  • Class ‘A’ shares that carry votes, but no rights to capital or income
  • Class ‘B’ shares that carry rights to income and capital, but no votes
  • A ‘Golden Share’ that carries management rights in respect of directors, shareholders and the share structure.

The founding shareholder (the founder) will transfer cash and/or other assets into the FIC in exchange for all the issued shares. The ‘A’ shares will be retained, the ‘B’ shares can then be gifted to the transferor’s heirs and the ‘golden’ share is gifted to a UK trust.

The FIC relies on four key principles to mitigate the UK IHT exposure:

  1. The shares that the founder acquires should broadly have the same value as the capital contributed. There is therefore no loss to their estate for IHT purposes.
  2. Transferring shares to other individuals reduces the value of the shares retained as a direct proportion to the whole value of the issued shares. The class ‘A’ voting shares, which will enable the founder to continue to exercise control over the underlying assets, will have only a minimal value.
  3. The gift of the class ‘B’ shares to other the family members should qualify as a PET and therefore should be excluded from the founder’s estate after seven years from the date of the gift. If the transferor does not survive for seven years, the gift will still form part of their taxable estate, but taper relief should be available. Gifts given up to three years before your death will be taxed at the standard IHT rate of 40%, but the rate then drops to 32% in the fourth year, 24% in the fifth year, 16% in the sixth year and 8% in the seventh year. At the end of the seventh year, the gift will be wholly exempt.
  4. There should not be an issue under the GWR rules because the arrangement should be treated as a carve-out, which means the founder is taxed only on the value of the shares that he/she retains (subject to surviving for seven years).

The rights attaching to the ‘Golden Share’ would be entrenched in the Memorandum and Articles of Association (M&As) of the company from the outset. The ‘Golden Shareholder’ would generally be an independent professional trustee, such as Sovereign, that would have the power to dismiss and appoint new directors and would have to authorise a disposal of shares or a change in the share structure.

A further substantive advantage of an FIC is that it removes the need for the costs and delays associated with the probate process after death. An FIC enables the transferor to arrange his / her affairs while he / she is still able to supervise the process rather than leaving it to executors.

Sovereign has developed two types of FIC: an onshore model that is suitable for UK residents; and an offshore version that can be used by expats residing overseas, typically in countries with a source-based tax system such as Hong Kong and Singapore.

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