Business property relief, the residence nil rate band and a vulnerable beneficiary
Dorothy is 79, widowed, and has a net estate of £2.95m: a home worth £1.15m, an AIM portfolio of £700,000 held for four years, a buy-to-let worth £650,000, ISAs of £420,000 and £80,000 cash, less £50,000 liabilities. Her husband used none of his nil rate band. She has two children: Mark, 52, and Sophie, 49, who has a learning disability and receives means-tested support. Dorothy wants Mark to inherit the house and the residue to be split, but she is worried about Sophie losing benefits if she inherits outright. Dorothy made a £10,000 gift to Mark six years ago and has made no other lifetime gifts. She asks whether her current will-an outright split between the children-is tax-efficient and whether she should transfer the AIM portfolio into a trust now. She is in good health.
1. Calculate Dorothy's inheritance tax exposure and explain the effect of business property relief and the residence nil rate band.
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Dorothy has her own nil rate band of £325,000 plus her husband's unused transferable nil rate band of £325,000, so £650,000 is available. The £10,000 gift to Mark six years ago is a potentially exempt transfer within seven years; after annual exemptions it may use part of the nil rate band, so I would verify the exemption position, but for illustration I assume it reduces available nil rate band by up to £10,000.
Without business property relief, the net estate is £2.95m. The residence nil rate band is tapered by £1 for every £2 of estate above £2m: excess £950,000, taper £475,000, so the maximum £350,000 is fully lost. Tax would be approximately (£2.95m − £640,000) × 40% = £924,000.
If the AIM portfolio qualifies for 100% business property relief, the estate for IHT falls to £2.25m. Excess over £2m is £250,000, taper £125,000, leaving residence nil rate band of £225,000. Tax would be approximately (£2.25m − £640,000 − £225,000) × 40% = £554,000. The saving depends on BPR continuing to be available; AIM shares are volatile and BPR can be withdrawn or denied, so it should not be treated as certain.
2. Advise on will and trust structures that protect Sophie without wasting reliefs.
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An outright split is tax-efficient but unsuitable for Sophie because a large capital inheritance could reduce or remove means-tested support. A disabled person's trust or a discretionary trust with carefully drafted powers can protect her, but the choice affects tax and benefits. A disabled person's trust can qualify for special income tax and CGT treatment, but capital in the trust may still affect means-tested benefits; specialist welfare-benefits advice is essential before drafting.
To preserve the residence nil rate band, the home should pass to a direct descendant-Mark-rather than into a trust that does not qualify as a closely inherited residence. If Dorothy wants Sophie to benefit from the house, a life interest or a charge over the property may be better than direct ownership, but this needs legal advice.
The AIM portfolio should not be transferred into trust without checking the BPR position: a transfer may restart the two-year ownership clock and could be a chargeable lifetime transfer. It may be better to retain the shares and leave them to a trust on death, when BPR may be available. The will should be reviewed with a solicitor and the trust terms should give the trustees discretion over capital for Sophie.
3. What lifetime planning should Dorothy consider now, and what are the risks?
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Dorothy should use annual exemptions and normal expenditure out of income where possible, and consider regular gifts that do not erode her capital. She should not make large PETs simply to save IHT: she is in good health but may need capital for care, and a PET fails if she dies within seven years. The £10,000 gift already made should be documented; if it exceeded available annual exemptions, it may use nil rate band.
She could consider reducing the estate by gifting the buy-to-let, but that would trigger CGT and lose the rental income, and it may be a gift with reservation if she continues to benefit. Transferring the AIM portfolio now risks restarting BPR and losing control. A whole-of-estate review with legal and tax advisers is more appropriate than an ad hoc transfer.
Finally, she should consider lasting powers of attorney and a letter of wishes for the trustees. The vulnerable-beneficiary trust should be reviewed for means-tested benefit treatment before implementation.