This article was written for International Adviser by Legal Director, Zahra Kanani, and published by them on 22nd March 2023 under the title "Why inheritance tax planning is vital for advice clients".
Whether it is in the workplace or in our homes, we very often hear that communication is key. However, some striking statistics have recently revealed that there is a lack of conversation in families around the world about the transfer of wealth down the generations and succession planning.
At Howard Kennedy, we work closely with high-net-worth clients where senior and junior members of the family are reluctant to discuss their plans for the transfer of wealth between generations.
This unwillingness to engage in these important discussions exists for many reasons, one of which is that senior family members worry that younger ones will decrease their focus on education or be less willing to follow their own entrepreneurial spirit if they are aware of a substantial inheritance coming their way.
Senior family members do not want to be seen as a providing a guaranteed financial safety net for younger members.
In addition, the rise in divorce and the breakdown of relationships has seen older family members try to protect their offspring and preserve their inheritance by not divulging too much information. We have also seen a rise in concern around personal reputation with younger family members worrying that discussing inheritance with their parents can lead to them appearing “selfish”.
Internal family dynamics and unresolved conflicts also play a role in stifling conversations on inheritance between the potential heirs. One child may be better off financially than the others, or there may be blended families with children from more than one marriage. Parents and older family members often find it difficult to talk about these issues and simply end up brushing things under the carpet.
Despite all these obstacles preventing families from openly discussing and planning for inheritance, at Howard Kennedy we have identified five scenarios where these conversations are paramount.
The first scenario addresses that parents often gift cash or assets to a “poorer” child without considering the tax consequences. In the UK, where inheritance tax is relevant, lifetime gifts made in the seven years prior to death may be pulled back into the estate on death.
If there is tax to pay, the recipient of such a gift, who may not be able to afford the tax payment, is responsible by default for its payment. Anyone who receives a significant lifetime gift should be made aware at the time that they may be subject to a tax liability in certain circumstances. Under UK rules, lifetime gifts made during the seven years before death usually need to be reported on the IHT return submitted to HM Revenue & Customs (HMRC) after death.
This is often when such lifetime gifts come to the attention of the other children, which can lead to friction and ill-feeling.
Another issue arises when parents feel pressurised to provide for less wealthy children in their lifetime, but do not take into account any future care (or other) costs that they themselves may encounter.
The advice of a financial planner is invaluable in this situation to help parents understand how much they can realistically afford to give their children, without compromising their own standard of living.
Scenario two and three
The second scenario focuses on blended families where one or both parties to a marriage have children from previous relationships. In these situations, the parents may wish to provide for each other after their deaths, possibly including autonomy over the family assets for the remainder of the surviving spouse’s life. However, children from previous relationships may expect an immediate inheritance on the death of their parent.
In the UK, IHT may be an issue if assets are left to chargeable beneficiaries, including children following the first of a couple to die. For this reason, professional advice on the best will structure and estate planning arrangements is vital. Ideally the spouse and children should be made aware of what to expect on the death of either party to a marriage, and open dialogue between all parties is important.
The third scenario where inheritance should be discussed is in family businesses. Often family businesses are the most valuable asset of the estate, and it can be difficult to achieve equality where not all members of the family play an active role in the business.
Those family members that are in involved in the business may feel entitled to receive all or the majority of shares or interest in the business following the death of a parent. To avoid disputes, parents should have a clear strategy to achieve parity between their children. This approach may involve leaving non-business assets to children who are not involved in the business. However, where IHT is relevant, advice should be taken as to the availability of “business relief” in respect of the shares in the business.
Scenario four and five
The fourth scenario concerns high-net-worth individuals who often have a philanthropic output. They may achieve this in their lifetime through charitable giving or by setting up their own charitable structures, or through their testamentary arrangements.
Alternatively, they may wish that their children contribute a part of their inheritance in keeping with their charitable objectives. In this case, the children’s views about being expected to pass a portion of their inheritance to charitable causes should be sought. If a child is not enthusiastic about this, a parent can look to achieve their objectives in other ways, having consulted with their advisers.
Finally, the fifth scenario where inheritance should be discussed is to counter situations where there is a lack of information. Children are often forced to piece together their parents’ affairs after their deaths.
Often, children are not familiar with the family’s advisers, and do not know who to contact or where to find the information.
Not only is this confusing and stressful at a difficult time, it may also lead to misreporting of IHT which, in turn, may lead to further complications.
Avoiding difficult or complicated conversations and decisions leads to problems, confusion and in some cases, disputes, when older family members pass away. To avoid this, professional advice should be taken before implementing any estate planning arrangements. Wealthy families may decide to bring together their lawyer, accountant and financial adviser to work together to achieve a tailored and bespoke estate plan.
Children and the younger generation should be brought into conversations with family advisers from the outset if possible, taking into account their age, maturity and financial acumen. This is key to avoid confusion and dispute at a later stage, to ensure that succession planning and wealth transfer are successful and to maintain good family relationships.