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Dead Aim

A widower seeking to minimise IHT on his estate would do well to consider a portfolio of Aim shares.

Since the death of my wife, I have become more concerned about the effects of inheritance tax on my estate. All my wife’s assets passed to me free of IHT when she died but I know this will not be the case when I die and my children inherit my assets. I wish my assets to be split equally between my children, without deduction if possible. What is the best way to achieve this?

Your various assets, including home, cash deposits, investment bonds and a big share portfolio, add up to around £1.5m and your estate could face an IHT liability of £480,000.

There is no one solution to mitigate this liability but, instead, a package of measures is likely to best meet your needs and the interest of your estate.

First, it is recommended that you effect a discounted gift trust for at least some of your wealth. These trusts have long been used as an effective way to gain an immediate reduction to IHT.

Using a single-premium investment bond, the discount is the result of the settlor having a retained right to the portion of the fund deemed to be needed to provide income for the remainder of his life via the 5 per cent rule. Since the retained right ceases to have value on death, there is no IHT liability. Growth is outside the estate and the remainder of the gift is a potentially exempt transfer as long as an absolute trust is used.

Additionally, you might consider investing in a portfolio of Alternative Investment Market shares.

The purpose of the portfolio is to make use of legislation surrounding business property relief. This relief is available for transfers of certain assets if they qualify as relevant business property and have been held for a minimum period. The relief is available for gifts and transfers in life and deemed transfers taking place on death.

The Inheritance Tax Act 1984 confirmed that where relevant business property has been held for two years or more at the date of death, 100 per cent IHT relief is available on the value of the investment.

Crucially, investments in company shares that are not listed on a recognised stock exchange qualify as relevant business property. The Aim was launched in 1995 by the London Stock Exchange as a flexible market for growth companies and, since the shares are unquoted, investments in these shares qualify for business property relief.

These investments need only be held for two years before they qualify for full IHT relief but there are some risks involved.

Clearly, the underlying companies within an Aim portfolio are higher risk than securities listed on the London Stock Exchange. The risks include, but are not limited to, the loss of a key member of company management and the fact that, due to the relatively thin trading in many Aim stocks compared with stocks listed on the main market, it can be difficult to sell them at a fair price.

On the other hand, the investment managers active in this market have taken many steps to limit this risk and, as you would expect, intensive research is undertaken before buying shares in the companies involved.

They may be smaller than FTSE companies but many are well known and established names that have strong market niches and a clear record of success. Diversification is key and a portfolio will typically contain between 20 and 30 different stocks at any time.

As well as using investment expertise to limit risks, some providers have gone one stage further by providing mechanisms within their product to limit risk. For example, one of the market leaders in the field uses the dividend created by the portfolio (typically between 1 and 2 per cent) to pay for a life insurance policy. This policy, which can be written in trust, seeks to pay the difference between the value of the investment at death and its original value should there have been a fall in its value.

Bearing in mind that if you do nothing, your estate stands to be reduced by 40 per cent, an Aim portfolio, with the benefit of built-in protection, may well be a risk worth taking.

Julie Hedge is principal of Christie Scott’s.

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