Estate planning for farm owners is a complex affair with many issues to consider, of which only a few examples are provided below, and the process should not be undertaken without proper professional advice.
1 – Check your Partnership Agreement or create one
This issue is covered in more detail elsewhere in this publication, but it is surprising how often a Partnership Agreement is overlooked during the process of making a Will or carrying out succession planning. All too often this results in a Will which entirely contradicts an existing Partnership Agreement, which may lead to unfortunate and unintended results. For this reason the Birketts Private Client team always review Partnership Agreements as part of the estate planning process.
Firstly, Partnership Agreements will often stipulate what happens to a deceased partner’s stake in the business, which may contradict that partner’s Will, if the terms of the Agreement have not been considered when the Will is prepared. This is also true of Shareholder Agreements for family companies. This contradiction could lead to the surviving partners or members being forced to buy-out the deceased’s share. Does your Partnership Agreement allow your intended beneficiary to inherit your share of the business? If your Will includes a trust, does your Partnership Agreement cater for this? If not, these documents may require amending.
Secondly the Partnership Agreement often clarifies exactly what assets are owned by the partnership, and those which are owned by the partners personally, and the partnership accounts should be consistent with this arrangement. Whether or not an asset is in fact a partnership asset will make a drastic difference to both the succession of the asset and its eligibility for business and agricultural reliefs. Partnership assets can be eligible for 100% business relief whereas assets belonging to one or more partners personally and used by the partnership will be limited to 50% business relief. In the case of agricultural relief, since each partner is deemed to own any property owned by the partnership, if agricultural property is held within the partnership for at least seven years, any partner who has been a member of the partnership for the same length of time will be entitled to agricultural relief on their interest in the partnership (insofar as the value is attributable to agricultural property). This period is shortened to two years where the partnership also occupies and farms the land.
If you don’t have a Partnership Agreement we recommend you speak with us as to whether or not to have one prepared to set out your intentions for the partnership. In the absence of a Partnership Agreement, the default legal position is that a partnership will be dissolved automatically upon the death of a partner and the assets sold on the open market. “Handshake agreements” may work well for day-to-day operations, but following the death of a partner they are likely to lead to a great deal of uncertainty (both personally for the deceased’s family and for the business) as well as increased HMRC scrutiny and tax risk.
2 – Don’t stop being “the Farmer” who “Occupies the Farmhouse for the Purpose of Agriculture”
Unfortunately the current rules for agricultural relief on farmhouses can cause difficulties for farmers wishing to pass on the reins of the business to the next generation and enjoy a well-deserved retirement.
The full test for whether a farmhouse qualifies for agricultural relief from inheritance tax is complex and many-faceted but, broadly speaking, the farmhouse must be occupied by the farmer who farms the land. It must be occupied by the person who has active oversight of the day-to-day farming activities, business decisions and expenditure, and there should not be a long gap between these activities ceasing and the date of death. If you plan to reduce your farming duties you should be sure to continue to attend farm meetings, participate in financial decisions (such as by signing off on cheques etc.), and ensure the records reflect continued active oversight of the farm.
It is also essential that the house itself continues to be the base of operations for the business. The farmhouse should be the correspondence address for the business and registered address for any farming company. Business meetings should be held at the farmhouse wherever possible, and business records kept there.
3 – Check your tenancies and farming contracts
Where farmland is occupied and farmed by the landowner, it will usually qualify for agricultural relief after two years of occupation. By contrast, if the land is let then it must be owned for seven years before qualifying for agricultural relief. Furthermore, if farmland is subject to a pre-1996 tenancy (known as an Agricultural Holdings Act (AHA) tenancy) it will usually be limited to 50% agricultural relief. It is still common for farming partnerships to farm land which is owned by one of the partners and let to the partnership under an AHA tenancy.
Business relief will usually also be available after two years where the landowner occupies and farms the land. If the land is let no business relief will be available unless it is let to a partnership of which the landowner is a member, or a company in which the landowner holds a controlling shareholding (provided that the landowner’s interest in the partnership/company also qualifies for business relief).
If you are a landowner using farming contracts (or grazing agreements), HMRC will often question whether in fact you are truly still occupying the land yourself. If not, the tax reliefs for the land and the farmhouse may be threatened. The contract must make clear that the person in charge of farming operations and decisions is you, not the contractor. It is also essential that you continue to be exposed to business risks (with profits depending on farming success rather than receiving a fixed return). As well as ensuring that written agreements are compliant, you should have regular meetings with the contractor (with records kept) to demonstrate your continued involvement in farming operations. You should continue to receive Basic Payment Scheme payments and farm correspondence, and should require copies of any farm invoices.
4 – Take advice on your diversified business
Agricultural relief is limited to properties used for agricultural purposes. This will not include residential properties let on the open market, furnished holiday lets, or land and buildings used for other non-agricultural business purposes. It is worth remembering that the keeping of horses for leisure purposes is not considered an agricultural activity.
Business relief will usually apply where diversification only involves using land and buildings for the purposes of another trading business. However, this will not include commercial or residential let property. Any business which is primarily one of exploiting land for profit is at risk of challenge from HMRC. In the past HMRC has disputed business relief for furnished holiday lets, caravan sites, livery stables and many other land-based businesses and advice should be taken on how to protect these ‘grey-area’ businesses from challenge.
It is often tax efficient to ‘shelter’ let properties within a trading business with the aim of obtaining business relief on the whole business. This is usually described as ‘Balfour planning’ following HMRC’s unsuccessful challenge against the executors of the late Lord Balfour who successfully argued that the Whittingehame estate’s trading assets and let properties were in fact a single composite business eligible for business relief as a whole.
However, if your business includes lettings, those lettings may risk ‘contaminating’ the trading business and causing the whole business to be ineligible for business reliefs. Whilst it is true that non-trading assets will not contaminate the trading business so long as they do not make up over 50% of the business, this calculation is easier said than done, and will take into account not only capital values but ratios of revenue, profitability, time commitment and many other factors. When one also considers how these values and ratios can easily change over time, and the fact that these rules are currently under scrutiny (a recent report by the Office of Tax Simplification has proposed that the minimum proportion of trading assets be raised to 80%), it is easy to see why Balfour planning must be carried out with caution and on proper advice. Regular reviews are also essential. In many cases, it will be advisable to separate the trading business and some or all of the let properties into separate businesses to preserve business relief on the trading business.
5 – Could you give away farm assets during your lifetime?
Many farm owners are deciding to take advantage of the generous inheritance tax reliefs currently available for farming assets in case these reliefs are withdrawn in the future. Farming assets can often be given away with the benefit of 100% inheritance tax relief and roll over relief for capital gains tax, but you should take advice on the steps that the recipient must take to ensure that no inheritance tax would arise if you were to die within seven years of making the gift and as to the likelihood of any capital gains tax arising.
You should always consider your own financial security before giving away assets. Do you depend on the income from these assets? Are you content to let the new owners control these business assets? What would happen to the business if your children suffered bankruptcy or divorce? If these issues are concerning then a family trust may be the answer.
This article is from the spring / summer 2020 issue of Agricultural Brief, our newsletter for farmers, landowners and others involved in agriculture. To download the latest issue, please visit the newsletter section of our website.
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The content of this article is for general information only. It is not, and should not be taken as, legal advice. If you require any further information in relation to this article please contact the author in the first instance. Law covered as at June 2020.