The recent rule change that allows Alternative Investment Market shares to be held in an Isa has provided a timely reminder of the tax advantages offered by these investments.
Whether held inside or outside an Isa, shares in Aim-listed companies provide advisers with a lot of scope for estate planning.
Business relief, previously known as business property relief, was introduced in the 1976 Finance Act and is now provided by the Inheritance Tax Act 1984. It was designed to enable family businesses to be passed on without creating an IHT liability but its use has widened to cover unquoted shares, including those listed on Aim. Direct investments in Aim shares that qualify for business relief provide 100 per cent relief after two years if held at the point of death. This is shorter than the seven-year survival period required for gifted assets – potentially exempt transfers – to become IHT-free.
St James’s Place tax and technical director Tony Mudd says: “Many estate planning solutions either require a client to survive a period of seven years or rely on them being able to arrange life cover.
“For the elderly or clients who are in poor health, the fact that planning involving business relief is effective within two years and does not require underwriting can be of significant value.”
Hargreave Hale director Richard Hallet points out that the two-year qualifying period does not mean that managers of Aim-based IHT portfolios have to hold each share for two years.
“We don’t have to hold unattractive businesses for at least two years just because of the holding period. We can replace one qualifying business with another as long as the replacement qualifies for business relief,” he says.
These “replacement rules” mean that it is possible to sell Aim stocks that qualify for business relief and preserve the relief as long as the proceeds are used to buy other qualifying investments within three years.
These rules allow owners of firms which qualify for business relief to shelter the proceeds of selling their business from IHT by reinvesting in Aim shares or other qualifying investments within three years.
Not all Aim stocks qualify for business relief and companies that qualify may cease to do so if they generate profits from non-qualifying activities such as joint ventures and income generated from cash.
Octopus business line manager for IHT Mark Williams says: “A large number of Aim companies don’t qualify for business relief and that is one of the bear traps for investors. A lot of mineral and resources stocks are on Aim but don’t qualify for business relief.
“There might also be an event where a company no longer qualifies, such as moving up from Aim to the main market. Trading companies that qualify for business relief may also build up cash which threatens business relief. That is why it pays to have a professional managing your portfolio.”
Traditionally, people would gift some of their wealth to family or into a trust but Williams says this is falling out of favour.
“Increasingly, investors see it as unappealing because they might need access to it in the future, for example, to pay for care. Business relief provides a tax efficiency in relation to IHT without investors losing control and still retaining flexibility,” he says.
Where someone has an illness such as dementia, their financial affairs will be dealt with by an attorney or deputy who has limited options for tax planning.
The problem: Mrs B is 87 and has a significant estate. She suffers from dementia and is incapable of looking after her own affairs. She qualifies for NHS continuing care so does not have to contribute towards the cost of her care. Her son and daughter – Mrs B’s sole beneficiaries – hold a power of attorney. They are aware that their powers as attorneys do not extend to making substantial gifts.
The solution: Keen to avoid a potentially costly and time-consuming application to the Court of Protection, which may permit them to engage in a gifting strategy, Mrs B’s son and daughter invest in a product which provides 100 per cent business relief after two years. The asset remains
|Source: St James’s Place|
Williams adds that since 2006 it has been difficult for wealthy people to use trusts because anything that exceeds the nil-rate tax band of £325,000 is subject to a 20 per cent lifetime charge.
“If you use an asset that qualifies for business relief and settle it into trust after two years, there is no 20 per cent lifetime charge,” he says.
Mudd says: “Where the existence of trust assets will trigger a liability to IHT on the death of a beneficiary, selecting investments that qualify for business relief as trust assets can provide major tax planning benefits.”
The problem: Mr and Mrs D are in their seventies and have been married for 15 years. They both have adult children from previous marriages and would like their respective children to inherit their individual estates. Mr D has a substantially higher income than his wife and he wants to ensure that she would be sufficiently provided for if he dies first. He establishes an immediate post-death interest trust in his will to provide his wife with an income after his death, hereafter directing the capital to his children on her death. However, as the value of the immediate post-death interest trust will be aggregated with his wife’s estate on her death and suffer an IHT charge, this will reduce the capital available for distribution to his children.
The solution: If the immediate post-death interest trust invests in assets that qualify for business relief, after two years, these assets will be free from IHT provided Mrs D survives her husband by this period and holds the assets until she dies. This strategy would also enable the full amount of Mrs D’s own nil-rate band to be applied against her own estate, protecting it for the full benefit of her own children.
|Source: St James’s Place|
Hallet warns against investing in Aim stocks solely for tax reasons because the rules can change. “You need to ensure that if the tax advantages have gone, you’re still looking at something that’s sound from an investment viewpoint,” he says.