Today: the anniversary of IHT-free ISAs
Eight years ago today, a seemingly minor ISA rule change created a solution to one of the most vexing problems wealthy ISA investors face.
That problem is: how do you prevent up to 40% of your ISA being swept away in tax when you die?
ISAs – so tax efficient in many other ways – could be subject to Inheritance Tax (IHT) on death (yours or your spouse’s if later). Until recently, the options were limited and unattractive to many. You could either keep the ISA and let it potentially fall prey to 40% IHT. Alternatively, you could cash in your ISA and give the money away or put it in trust – and, in so doing, give up the ISA tax benefits and future access to that money.
On 5 August 2013, a new option became possible. A change to ISA rules meant you can now hold AIM shares in your ISA. Many AIM shares qualify for something called Business Property Relief (BPR in short). If you hold BPR-qualifying shares for two years and still hold them on death, the investment could become IHT free. Bear in mind, tax rules can change and benefits depend on circumstances.
An increasing number of experienced investors are taking advantage of this rule change by investing – or transferring existing ISAs – into an AIM ISA: a portfolio of AIM shares specifically created and expertly managed that aims to deliver some growth and IHT relief.
Important: AIM ISA should only be considered by experienced ISA investors likely to be affected by inheritance tax. AIM-listed shares are high risk and volatile. You should not invest money you cannot afford to lose.
What might an AIM ISA look like?
The rules that govern AIM ISAs are the same as those that apply to conventional Stocks & Shares ISAs:
- You have the same allowance – £20,000 this tax year (but you can transfer in unlimited amounts)
- Once invested, your money can grow free of capital gains tax and any income is also tax free
- You decide whether to take an income or let any growth accumulate
- You are in control of your money: you can make withdrawals or take the whole pot in cash if you need
- Your portfolio value moves up and down in line with the stocks and shares it holds
There are two main differences.
First, unlike conventional Stocks & Shares ISAs, your AIM ISA should be IHT free after two years.
Second, your money is invested in AIM shares, which are considerably riskier and are less easy to sell than those listed on the main stock market.
That said, an experienced fund manager will try to mitigate that by selecting stocks they believe can deliver some growth without too many ups and downs.
Remember, capital is at risk and investors should not invest money they cannot afford to lose.
Under current rules, BPR-qualifying AIM investments held for at least two years and on death are IHT free but please remember tax rules can change. HMRC will only assess if assets qualify for BPR on death.
How could I invest in an IHT-free ISA?
If you have the time and inclination, you could research and select AIM-listed shares that qualify for BPR and build a portfolio yourself.
Alternatively, there are reputable and experienced asset managers that offer ready-made portfolios. Two of our favourites are the Octopus AIM IHT ISA and the RC Brown AIM IHT ISA. They both have a strong track record but very different – and complementary – investment strategies.
Octopus AIM IHT ISA
The Octopus AIM IHT ISA is the largest service of its kind (it manages £2 billion, June 2021).
The highly experienced management team – which includes professionals who have been investing in AIM since the market was created in 1995 – focuses on large and established companies, often much larger than one might expect when considering an AIM investment.
Since launching the service in June 2005 to June 2021, it has delivered returns of 320.59%, equivalent to a return of 9.39% per annum: past performance is not a guide to the future, see full performance details.
The minimum investment is £20,000, so you could consider investing this year’s ISA allowance with or without transferring ISAs from previous years. When you invest through Wealth Club, you benefit from a 0.25% discount on the initial charge – see full details on charges.
RC Brown AIM IHT ISA
This is a relatively new and small portfolio (£31 million, June 2021) managed by RC Brown, an established investment management boutique with a close-knit investment team.
The business has been investing in the AIM market for more than 20 years and in 2018 launched its AIM IHT investment service. The investment strategy is different to other AIM IHT offers due to its focus on primary market opportunities, i.e. new share issues – an approach RC Brown has followed for 30 years.
The service also benefits from a simple and competitive fee structure with no dealing fees. This could be appealing, especially if investing smaller sums, where dealing fees can have a disproportionate impact on returns – see full details on charges.
The minimum investment is £50,000, so to subscribe for this year’s allowance you will need to transfer an existing ISA as well.
AIM IHT portfolios – performance comparison to June 2021
Five-year cumulative performance
The default view is the performance for our two featured offers. You'll be able to see the performance of other AIM ISA offers if you click on the portfolio names above. Source: Octopus Investments, RC Brown and other AIM ISA managers. Performance is shown net of fees, excluding initial charges, with dividends reinvested, based on the average portfolio performance across the service, except for Puma and Fundamental which shows the performance of one example portfolio. Past performance is not a guide to the future. Dividends are variable and not guaranteed.
Five-year discrete performance
|AIM IHT portfolio||H1 2021||2020||2019||2018||2017||2016||Five years to 30 June 2021|
|Octopus AIM IHT||14.30%||0.50%||21.80%||-20.60%||27.80%||6.70%||70.20%||RC Brown AIM IHT||10.90%||17.50%||23.20%||n/a||n/a||n/a||n/a|
See five-year discrete performance comparison of all available AIM IHT portfolios
Source: AIM ISA managers. Performance is shown net of fees, excluding initial charges, with dividends reinvested, based on the average portfolio performance across the service, except for Puma and Fundamental which shows the performance of one example portfolio. Past performance is not a guide to the future. Dividends are variable and not guaranteed.
Important – Treasury review
A previous Chancellor requested a review of IHT to simplify the tax system. A report was published in July 2019, but this has not yet led to any rule changes.
Currently, investments qualifying for Business Property Relief should be free from IHT after two years. Please remember, tax rules can and do change and benefits depend on circumstances.
Should I be concerned about IHT? Rules at a glance
IHT could apply to your estate if it is over a set threshold: the basic nil-rate band plus potentially the residence nil-rate band.
The basic nil-rate band is currently £325,000 for a single person (£650,000 for married couples). Any excess could be subject to IHT of 40%.
Since 2017 there is an additional provision, the ‘residence nil-rate band’, currently £175,000. It was introduced to help people pass on their family homes more tax efficiently.
So, single homeowners could currently pass on up to £500,000 (£1 million for married couples) free of IHT. Note, in the most recent Budget, the Chancellor announced both thresholds will be frozen at the current level until 2026.
There is an important caveat.
Whilst the nil-rate band applies to nearly everyone, the residence nil-rate band comes with a lot of conditions attached and may not be available – or available in full – to everyone. The rules are complex. In a nutshell, to benefit you must be a homeowner and have direct descendants, such as children or grandchildren. Moreover, to benefit in full your total estate must be worth less than £2 million.
Please note, tax rules can change and benefits depend on circumstances.
Wealth Club aims to make it easier for experienced investors to find information on – and apply for – tax-efficient investments. You should base your investment decision on the provider's documents and ensure you have read and fully understand them before investing. This review is a marketing communication. It is not advice or a personal or research recommendation to buy the investment mentioned. It does not satisfy legal requirements promoting investment research independence and is thus not subject to prohibitions on dealing ahead of its dissemination.
How could you make your ISA IHT free?
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