Employee Benefit Trusts and Inheritance Tax: Why April 2026 Changed the Picture
For years, inheritance tax was something most employee benefit trusts could safely ignore. The restriction of business property relief from 6 April 2026 has changed that. If your company has an employee benefit trust, or you are thinking of setting one up, inheritance tax now belongs in your routine trust housekeeping rather than in the "unlikely to matter" pile.
What an EBT is, and why inheritance tax rarely bit
An employee benefit trust (EBT) is a discretionary trust set up to benefit a company's employees and directors. They are an ordinary, widely used tool: companies use them to hold shares for future awards under share schemes, and private companies often use them to create an internal market so employees can sell shares when there is no trade sale in sight.
Discretionary trusts normally fall inside the relevant property regime, which brings charges of up to 6% on every ten-year anniversary and further charges when assets leave. Most EBTs are drafted to fall within section 86 of the Inheritance Tax Act 1984 - a "qualifying" EBT, held for all or most of the employees and directors of a company, plus former employees and certain family members. Qualifying EBTs sit outside that regime, which is why inheritance tax became a box that was ticked once and forgotten.
Where charges did arise, business property relief usually absorbed them. If the trust held unquoted trading company shares, 100% relief removed the liability. That safety net has now been cut back.
What changed on 6 April 2026
From 6 April 2026, 100% business property relief and agricultural property relief are capped by a combined allowance of £2.5m. Value above the allowance gets 50% relief, which works out at an effective inheritance tax rate of 20% on the excess. Shares designated as "not listed" on a recognised stock exchange - AIM shares being the obvious example - receive 50% relief in all cases and do not use up the allowance.
Trustees have their own allowance, applied on each ten-year anniversary charge and each exit charge. Trusts created before 30 October 2024 each have their own; the allowance is divided between trusts created by the same settlor on or after that date.
The effect is straightforward. Charges that used to be relieved down to nil can now produce a real bill, and inheritance tax has become relevant in situations where nobody previously thought to look.
Putting assets in
Falling within section 86 is a good start, but it does not deal with funding the trust. Where a close company contributes to an EBT, inheritance tax can still be charged under section 94. The company is liable, but the rate is worked out as though each participator - broadly, shareholders and loan creditors - had made a chargeable lifetime transfer personally. The rule exists to stop family companies using an EBT to sidestep inheritance tax.
The escape route is section 13, which exempts a gift to an EBT provided the trust excludes anyone holding 5% or more from benefiting. Two traps are worth knowing:
The 5% test applies to any single class of shares, which regularly catches share plans that use a special class.
Since 30 October 2024, where participators and connected people make up more than 25% of the employees who can benefit, they must be excluded altogether. A deed drafted before that date may no longer do the job for a new round of awards.
It is also not always obvious whether a company is close. The definition is control by five or fewer participators, but a participator's holding is aggregated with that of their associates, and a subsidiary is close if its parent is. There is no size limit - even a listed company can be close if a founder controls it.
Taking assets out
There is a specific charge on assets leaving a qualifying EBT under section 72, based on how long the assets have been in trust. It starts at 0.25% per quarter for the first 40 quarters and builds to a maximum of 30% after a full 50 years.
Most distributions escape it, because a payment that is income of the recipient for income tax purposes falls outside the charge, and almost anything paid for the benefit of a specific beneficiary is taxed as employment income. The risk is in the timing: if the income tax charge does not arise at the same moment as the payment out, HMRC's position is that inheritance tax is due - even though the same value is effectively taxed twice.
Two situations are worth flagging. Granting a discounted share option over EBT shares can itself be a disposition, so it is often better for the employer company to grant the option. And buying surplus shares back from the trust at nominal value sits squarely within section 72 - without full business property relief behind it, that is now a chargeable event.
Historic arrangements deserve a second look
Many older EBT avoidance schemes were settled with HMRC on income tax, National Insurance and corporation tax, but the settlements did not cover inheritance tax. Where no inheritance tax account has been delivered, HMRC generally has 20 years from the date of the chargeable transfer to bring proceedings, without needing to show carelessness or fraud.
Sub-trusts are the classic problem. HMRC's view is that a sub-trust is a separate trust unless its beneficiaries include all or most employees, which can produce a charge on the way in, ten-year charges while it sits there, and further charges of up to 6% on the way out. Because sub-trusts were never expected to fall outside section 86, the records needed to calculate the tax often do not exist - and the ten-year clock runs from when the assets were first settled, not from when they entered the sub-trust.
The courts are not a dependable backstop. In JTC v Garnett [2024] EWHC 3128 the trustees succeeded in having sub-trusts rescinded, restoring section 86 protection, but only through a costly application to court. In Bhaur [2023] EWCA Civ 534 the taxpayers were refused permission to unwind an EBT-based scheme at all.
What to check now
If your company has an EBT, it is worth reviewing:
whether the trust still satisfies section 86, particularly after a group restructuring or a transaction that changed who is employed by which entity
whether the exclusion provisions in the deed meet the section 13 conditions as they stand today, not as they stood when the trust was set up
whether the company is close, taking associates and parent companies into account
what the trust actually holds, and how the £2.5m allowance and the 50% rate now apply to it
whether any historic arrangement, sub-trust or settled scheme has left an inheritance tax position unresolved
All figures relate to the 2026/27 tax year. Rates, thresholds and reliefs change, so please check the current position before acting on anything here.
If you would like us to review an existing employee benefit trust, or look at the inheritance tax position of your company's share arrangements, get in touch with the Flow team.
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