Structures for the Great Wealth Transfer: comparing family succession vehicles

As significant wealth passes from one generation to the next, families are increasingly focused on how they structure and pass on their assets. Transferring wealth from one generation to the next is likely to trigger material inheritance taxes if left until death. Lifetime gifting can mitigate this cost and family investment companies and family limited partnerships have become increasingly popular structures for clients who want to transfer wealth to the next generation, but are worried about making that wealth readily accessible to younger family members before they are ready. Both structures separate the ownership and control of those assets, but do so in different ways. 

Giving away, but with some controlling guard-rails

For the family investment company, control can be retained through the make-up of the board, which is responsible for operational matters of the company and whether dividends should be declared. A lot of flexibility can also be built in for the shareholders.  For instance, shares with full voting rights but just 1% of the economic value in the company and no access to dividends can be held by the parents, with another class of shares which provide no voting rights but 99% of the economic rights can be issued to the next generation. The voting rights retained by the parents  will enable them to influence the make-up of the board and other key shareholder level decisions.

For a family limited partnership, the parents can act as the General Partner, retaining management over the structure and when distributions are made, while the next generation come in as Limited Partners, holding economic rights. The partnership agreement can then be tailored to ensure control is retained by the General Partner and restrict the actions of Limited Partners.

Inheritance tax mitigation is not the only tax consideration

Both structures are used effectively for inheritance tax planning, but a key difference between company and partnership structures is the income and capital gains tax treatment. 

If the family investment company is managed and controlled in the UK, it will be subject to UK corporation tax on all income and gains. As UK corporation tax is currently lower than the highest rates of income tax holding income producing investments in a company can be more tax efficient than holding them personally.  Given the capital gains tax rate is slightly lower than the corporation tax rate, gains from investments will incur slightly higher tax in the company structure, but the tax liability is, of course at the company level not on the individual, which may alone be attractive.  When extracting value from the company, if dividends are being declared there may be additional UK tax charges so a family investment company is best used as an income tax deferral vehicle where there is no immediate need to extract liquidity. 

And it should be born in mind that due to the various anti-avoidance rules which apply to companies, Family Investment Companies can present greater tax complexity compared to Family Limited Partnerships due however such risk can be managed through careful planning and proper advice. 

By contrast, the family limited partnership is fully tax transparent: partners are taxed personally on their share of partnership profits as they arise, regardless of whether those profits are distributed. This avoids the two layers of taxation you have with the company option, however if the structure generates a lot of income, UK resident partners will suffer the higher UK income tax cost (of up to 45%).  

Privacy and asset protection

Privacy is often a key consideration for clients setting up asset-holding vehicles. Family Limited Partnerships set up outside the UK can offer greater privacy for the individual partners involved, even if they are resident in the UK. On the other end of the spectrum, a family investment company incorporated in the UK would need to regularly update Companies House with information on its directors and persons with significant control, which will be publicly available. However privacy can be managed through the use of unlimited companies or nominee shareholders. 

The choice of jurisdiction for the structure is key for both an asset protection perspective and privacy. Both family limited partnerships and family investment companies can be established outside the UK, and certain jurisdictions provide a degree of asset protection through firewall legislation and non-recognition of foreign court rulings. There will also be different reporting requirements in different jurisdictions. As the legal, tax and regulatory framework also varies from jurisdiction to jurisdiction, we often compare a range of suitable jurisdictions for clients to consider when setting up a new structure.

Regulatory position

Because a partnership can, in some cases, fall within the definition of a collective investment scheme, it is crucial to consider the regulatory position when setting up a family limited partnership. Fortunately, in the vast majority of cases, the regulatory issues can be managed for family limited partnership. However, Family investment companies do not share this regulatory exposure, so that's one less thing to think about for the family investment company.

International matters

Partnership structures may suit certain individuals who would, if they used a company, suffer unfavourable tax implications in a second jurisdiction. 

Some jurisdictions impose exit taxes on foreign companies (including the UK), which can restrict the portability and flexibility of a structure if the family relocates. This is a key factor to take into account when setting up a long-term succession planning vehicle where family members are internationally mobile.

How we can help

In short, both companies and partnerships offer flexible and robust structures for tax and succession planning. There's no one-size-fits-all solution: the right choice of entity and jurisdiction for a new structure comes down to the family's asset matrix, the jurisdictions involved and long-term goals - and that's exactly what we help clients navigate.