Hands off: tax-free share ideas

The tax tail should never wag the investment dog but if you already invest in small caps, this is a useful additional long-term benefit in return for the risk you take on. Buying and holding qualifying Aim shares "provides one of the quickest and easiest ways of moving assets outside an individual's estate for inheritance tax while providing equity-related returns and the ability to realise the portfolio if circumstances change," says Sean O'Flanagan, investment manager at stockbroker Charles Stanley.

There are other ways to move money outside your estate - see Moira O’Neill's tips 'Inheritance tax: the bigger picture' - and you should certainly consider these first.

However, investing in qualifying Aim shares brings the added benefit of letting you retain complete control and access to your capital throughout the period, says Paul Parker, fund manager at Collins Stewart. He thinks that for people who have savings that are captured by inheritance tax and who already invest in equities the benefits are clear, adding: "If you hold equities already, the scheme is a no brainer." His argument has been given more weight after companies such as Royal Bank of Scotland, Lloyds TSB and BP - supposedly safe low-risk mega-caps - have seen precipitous drops in their share prices, as increased scale brought added risk, not security. Mr Parker said: "Chief executives of Aim-traded companies often know everyone in their organisation; can the chief executive of a FTSE 100 company say the same?"

There are clear signs that Aim is shaking off its risky reputation, too. From a peak of 1,694 companies traded on Aim in 2007, the market had shrunk to 1,115 by the end of July 2012. "There has been a drop in the number of companies," says Sam Smith, chief executive at FinnCap, the broker that specialises in small- and mid-cap companies. "But there has been an increase in quality."

Mr O'Flanagan agrees: "What is not widely appreciated is the size and maturity of a number of Aim-traded companies". He sites Young & Co's Brewery, which has a 180-year trading history supported by more than £500m of freehold pub assets, and Nichols, the maker of Vimto soft drinks, founded in 1908. Nichols has a strong balance sheet and has maintained a progressive dividend policy; in addition, a significant equity holding by the Nichols family means the business is run for long-term stable growth.

That rising quality means that, contrary to popular perception of Aim as a risky market, it's possible to build a portfolio of Aim shares that you can safely hold on to for the long term. True, you're still likely to experience the ups and downs that come with investing in the stock market, but you certainly don't need to invest in loss-making ventures purely for the tax breaks. "Do it because these are great businesses first and foremost", says Mr Flanagan.

If you're still not convinced, take a look at Collins Stewart's Inheritance Tax Portfolio performance.

Collins Stewart's IHT portfolio performance

Collins Stewart has provided an Inheritance Tax Portfolio Service since April 2006 and, as at 31 August 2012, the portfolio was up 32.3 per cent (excluding 1.5 per cent annual management fee), compared with the FTSE All-Share which was down 2.8 per cent over the same period, and the FTSE Aim Index down 43.7 per cent. The impact on a nominal £100,000 invested on 12 April 2006 and the holder dying on the 31 August 2012 is shown in the table below.

However, you can easily construct a similar portfolio yourself. Here's our view of Aim shares that qualify under the inheritance tax exempt rules, although bear in mind that is that a share's status as a qualifying holding could change as the business changes.

Young & Co's Brewery

Pubs group Young's most recent full-year results beat analysts' expectations and the group's London focus and strong balance sheet leaves it well-placed for further expansion. But the shares, priced on 17 times forecast earnings, look fairly valued.

Nichols

Chief executive Brendan Hynes expects new distribution agreements in the Middle East and Africa to help Nichols maintain impressive international growth. So the shares, on a forecast PE of 17, remain a buy.

James Halstead

Commercial flooring manufacturer and distributor James Halstead expects to deliver another record performance for the full year and it remains one of our Tips of the Year (445p, 5 January 2012). Buy.

Albemarle & Bond

Pawnbroker Albemarle & Bond is around halfway through a five-year expansion programme and its most recent half-year results showed double-digit profit growth. The shares, on a modest forward PE ratio of 11, remain a buy.

RWS

Provider of specialist patent translation services RWS gave the half-year dividend a 10 per cent boost after a solid first half, and management said that, after recent client wins, it expects revenues to be weighted to the second half. Rated on 16 times forecast earnings, the shares are worth holding.

Murgitroyd

Patent and trademark attorney Murgitroyd reported double-digit revenue and profit growth in its first-half results. With growing patent and trademark filings, driven by overseas demand, and the shares on a forward PE ratio of 11, they remain a long-term buy.

Advanced Medical Solutions

Woundcare specialist Advanced Medical Solutions still needs to overcome the lumpiness of some of its core revenues. It is enjoying strong sales of new product Liquiband and, if these continue through the second half, the shares look cheap on a discount-to-sector forward PE ratio of 14 times. Buy.

Zytronic

Demand for Zytronic's high-margin touch screen sensors in fast-growing Asian markets has driven profits sharply higher in the first half of the year. Zytronic is winning plenty of new business and generating lots of cash, so a forward PE ratio of 14 looks undemanding. Buy.

Majestic Wine

Record first-half results show that in a recession plenty of people are still finding solace in a bottle or two. The group still has considerable scope to grow market share, but recent weak trading means the shares, on a forecast PE ratio of 14, are a hold for now.

Steve Lewis, chief executive of Majestic Wine, toasts his company's record first half.

Stanley Gibbons

Stamps and collectibles seller Stanley Gibbons is aiming to capture a growing online market. It remains one of Simon Thompson's Bargain shares of 2012, and, rated on a modest 11 times earnings estimates, it remains a buy.

Tikit

The supplier of software to accountancy and legal firms currently trades on a forward PE ratio of 13 and remains a buy.

Asos

Online clothing retailer Asos is looking to expand overseas after another year of record revenues and profits. A punchy forward PE ratio of 36 means we rate the shares a hold.

Telford Homes

East London housebuilder Telford Homes reported strong trading in its first quarter and, with the shares trading at a discount to net assets, they remain a buy.

An IHT-ready Aim portfolio