More people risk leaving their loved ones with an inheritance tax (IHT) bill when they die as rising property prices push the value of more estates over the current £325,000 threshold. Beneficiaries have to pay a 40 per cent IHT charge on the value of estates over that level. Research published by Octopus Investments earlier this year found that 29 per cent of homeowners over 70 had not thought about IHT planning at all. And only 6 per cent of survey respondents over 60 knew that individual saving accounts (Isas) are subject to the 40 per cent IHT charge upon death.
But if you have substantial assets, one way you can legitimately reduce the amount of IHT your relatives pay is by investing in assets that qualify for business relief. Business relief, also called business property relief (BPR), gives 100 per cent relief from inheritance tax to investors who hold shares in qualifying businesses, and have done so for at least two years at the time of their death.
There are strict rules as to the type of businesses that qualify for the relief: these must be unquoted trading companies, which includes many traded on the Alternative Investment Market (Aim). Companies that mainly deal with or hold investments such as stocks and shares, or land or buildings, do not qualify for the relief.
BPR investments have traditionally focused on capital preservation, but an increasing focus on growth and income in recently launched BPR products has raised the average target return from 3.97 per cent to 4.26 per cent, according to research by Intelligent Partnership.
Ben Yearsley, investment director at Wealth Club, says investors are often unaware of the tax-reducing benefits of BPR investing.
“While many investors use their annual pension and Isa allowances to help grow their capital tax-efficiently, and either reclaim income tax via pension contributions or avoid paying income tax on dividends within Isas, many think less about the consequences of what happens to their hard-earned wealth after they die,” he says.
“In 2009-10, just 2.6 per cent of deaths led to an IHT charge, but this is expected to rise to 8 per cent or more in the current tax year, raising more than £4bn for the exchequer. IHT is a legitimately avoidable tax, either by gifting assets, using trusts or by investing in a business relief investment managed by experienced fund managers.”
There is a growing universe of BPR investment products available, which is driving interest in this area, and the fact that Aim shares are now eligible for Isas has also made BPR investing more popular.
“Aim shares are classed as unquoted,” Mr Yearsley says. “But not all Aim shares nor all unquoted companies qualify for BPR.
“Up until August 2013, you couldn’t put Aim shares into an Isa, but then the rules changed making Aim shares both capital gains and income tax-free and, significantly, IHT-free too.”
Business relief investing benefits Investing in assets that qualify for business relief is particularly useful for people who are worried about life expectancy, says Ian Dyall, technical manager for estate planning, at Towry. Unlike other IHT planning methods, which require you to gift assets away at least seven years before death to accrue the full relief, BPR investments only require a holding period of two years. “Most people are reluctant to give away their assets until they get older – even when they have far more assets than they need,” says Mr Dyall. “Psychologically it’s very difficult for them to move from a mindset where they’ve saved all their life and seen their assets go up, to a point where they’re comfortable giving them away and reducing the capital, because there’s always that nagging doubt at the back of their mind that they may need this money. “So often they leave it too late and the big advantage of BPR is that it works in two years whereas other methods take seven years. Plus they’re not really giving assets away, they’re still retaining control – so if they did need the money they could get it back.” There are a number of other ways he uses BPR-related investments to help his clients, such as placing BPR-qualifying shares within a discretionary trust or buying shares in a relative’s company. “For example, let’s say we have an elderly lady who wants to do some estate planning,” explains Mr Dyall. “She doesn’t think she can live seven years, but thinks she’ll manage two. Let’s imagine her son runs a business, a private limited company, which probably would qualify for BPR. She might buy some shares in her son’s company and after two years they would qualify for BPR and, after her death, she wills them back to her son. She’s only taking the same risk her son was taking anyway.” |
BPR risks
Despite the flexibility and benefits BPR investing can offer, it is not for everyone.
“It worries me to some extent that some people who don’t really understand it are getting involved in it,” says Mr Dyall. “They’re attracted by the tax benefits but don’t think about the reason they’re getting those tax benefits, which is because they’re investing in small companies.”
He says investors need to be aware of the increased risk of default and volatility associated with investing in smaller companies, as well as potential liquidity problems – which may make it difficult to sell when you want to.
“Smaller companies tend to be more volatile, especially in markets like we’re in at the moment,” he explains. “If you look back at 2008, many of the Aim portfolios had significant losses which were probably not the kind of losses people were expecting when they got involved in that sort of market.”
You also need to be sure that the investment you’re considering qualifies for business relief and recognise that there is always the risk the government could change the rules on what qualifies.
Mr Yearsley points out that staying on top of which companies qualify for business relief can be tricky, so suggests private investors choose a manager offering BPR investments rather than trying to do it themselves.
“You can [invest for BPR] yourself, but you need to make sure that the shares you’re buying qualify, which is difficult especially as there’s no definitive list,” he says.
Another factor you need to be aware of is that you must hold the shares at the time of your death for them to qualify for business relief. “There is a slight danger with the Aim managers as they’re changing stock,” says Mr Yearsley. “If they’ve sold out of a stock and are waiting to reinvest in something else when you die, that portion doesn’t qualify. They obviously try to change stocks as quickly as possible, but you have to think about those sorts of things. For example you might want to change providers and once you’re out of the market then you don’t qualify.”
There are a number of managed products available that make use of business property relief to reduce the amount of inheritance tax beneficiaries face. These products are broadly divided into two areas – managed portfolios that focus on holding Aim shares and portfolios that hold shares in other unquoted companies.
Providers offering Aim Portfolios include Octopus Investments, Downing, Unicorn Asset Management, Close Brothers Asset Management, Rathbones and Amati Global Investors.
Investors Chronicle will be looking at the different kinds of inheritance-tax-reducing products on offer in next week’s Your Money feature
Should I use BPR? BPR investing is only really suitable for people who have individual assets of more than £750,000, says Mr Yearsley. This is because assets of up to £325,000 are IHT-free, or £650,000 for a couple. And from next year the introduction of a new main residence nil-rate band will provide couples with the potential for IHT-free estates of up to £1m in value. So the key question to ask yourself when deciding whether BPR investing is suitable for you is whether you are likely to have assets above this amount. The next thing to do is to weigh up your risk tolerance and decide whether you will be more comfortable investing in unquoted companies or Aim companies. Also don’t neglect the basics – make sure you’ve drawn up a will. “Make sure you do your research and decide whether you want growth or income, Aim or unquoted, or a mix,” says Mr Yearsley. “I think going for a mix is best. Most of [the investments] have minimums of about £50,000, which sounds high – and it is – but then again you need to have a reasonable pot of money to even be thinking about this area, because otherwise it’s not worthwhile. Having a mix of Aim, unquoted and three or four providers makes sense. Like with any other kind of investment, don’t put it all in one place.” |
