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IHT planning – the effect of outstanding loans on business and property and agricultural property relief

It is not unusual for an individual to die being an owner of an unincorporated business and property in which there is an outstanding mortgage which, whilst being secured on the property, was taken for the purpose of financing a business.

It is relatively well known that it is the purpose of the loan that determines the qualification of interest for tax relief. This is particularly important following the removal of mortgage interest relief on loans taken to finance the purchase of the principle private residence.

Where the purpose is to acquire shares in a private trading company or to lend money to such a company or to acquire an interest in a partnership or lend funds to it (in either case where a loan is made the funds must be used for the purpose of the business) then the interest payable to the lender should be deductible for the borrower.

An issue that does not get as much publicity is the impact of the loan on business property relief. The unfortunate issue here is that even though the loan is secured on a private residence the borrowings must be deducted for inheritance tax purposes from the business where a loan was taken out for the purpose of the business. This will have the effect of reducing the value of an asset that already qualifies for business property when it would be much more valuable for the taxpayer and his family having the loan deducted from chargeable assets. However, that is the way it is and it is provided for by S110 IHTA 1984.

Where the borrowing is secured on the private residence but the business for which the borrowings were made is that of a farm then agricultural property relief is given in priority to business property relief (S114 IHTA 1984). Not only that but the loan is not deducted on the agricultural property.


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