Family Limited Partnerships – A Commendable Alternative to Trusts
Find out more about how an FLP could work for family succession purposes as well as offering practical tax savings
With the advent of the Finance Act 2006, lifetime trusts have been since 22 March 2006 subject to an immediate 20% inheritance tax entry charge on the initial capital above the threshold of £325,000, and an ongoing 10 year periodic inheritance tax charge and exit charge on capital distributions, capped at 6% of the value of the property in question. Family Limited Partnerships (FLP) have instead emerged as a conspicuous alternative to trusts for family succession purposes.
Family Limited Partnerships refer to a limited partnership formed under the Limited Partnership Act 1907 to hold the family business or investments, with the notion that the parents will make gifts of their limited partnership interests to their children. Notably, the gift of the partnership interests to the other family members will be a Potentially Exempt Transfer (a “PET”) but provided the donor survives the transfer by seven years, no inheritance tax will be due.
Typically, in an FLP, the partners comprise a general partner (generally a private limited company owned by the donor to ring-fence liability), which has a minute interest but retains management responsibility, and limited partners who have a fiscal interest but no day-to-day management duty. The children can progressively partake in the business and be brought in as directors of the general partner.
In line with any other partnership, the FLP must operate as a business with a view to profit. The FLP can hold a range of investments including a traditional portfolio or a property investment company (rental or development). The transfer or gift of assets such as investment portfolios into a partnership would ordinarily activate a charge to capital gains tax on unrealised underlying gains unless holdover relief applies.
FLPs are transparent for tax purposes. Each partner is separately taxed annually in his country of residence or domicile on receipts in proportion to the interest he holds in the FLP. FLPs are advantageous as they avoid any double taxation which, occurs with private companies.
In the end, an FLP agreement amounts to a business structure governed by contract law and not trust law. Limited partners can be prevented from withdrawing their capital until a fixed date or until they reach a prescribed age, or at least with the prior consent of the general partner or even unanimous consent of all other partners, or from dissolving the agreement until a specified future date, such as the death of the donor.
Potential problems can arise with the transfer of partnership shares. Limited partners could be restricted from selling their shares. Nevertheless, the exact limits of such provisions have yet to be substantially tested.
Moreover, FLPs do not provide the same flexibilities of a trust in terms of reshuffling beneficial interests to take account of the changeable behaviour of children and shifting family circumstances. Pre-emptive provisions to “buy out” or protect assets on divorce or bankruptcy of the family members can be included, but the exact limits of such provisions on divorce have yet to be adequately judicially tested. As a remaining option, the FLP agreement can provide that bankruptcy disqualifies a partner from his interests. It means that his share is kept safe from creditors.
In contrast to trusts, FLPs are public. Registration must take place at Companies House. Moreover, in most cases, FLPs will be collective investment schemes under S235 Financial Services and Markets Act 2000 (FMSA). It means the FLP must have an FSA authorised investment manager who will be able to manage, deal and advise on investments. Furthermore, once the FLP is created, it must be properly administered, funded and maintained. Minutes of partnership meetings must be taken and respected. These factors can all add costs.
Nevertheless, FLPs present practical tax savings and an efficient way of safeguarding wealth for family businesses. Edward Daniel has notable experience in advising on FLPs and while trusts may offer a more appropriate structure, FLPs remain a commendable alternative.
This publication is a general summary of the law. It should not replace legal advice personalised to your particular circumstances and needs.