A Simple Way To Sidestep Inheritance Tax

Inheritance tax used to be regarded as a tax on the rich. No longer. These days, being levied on estates valued at £325,000, it’s very much a tax on middle-income earners. And at 40%, it’s not a tax to be sneezed at.

How does it work? Simply put, for every £1 over the Inheritance Tax threshold, the taxman takes 40p.

Granted, there are exemptions. Married couples and those in civil partnerships get what is in effect a joint allowance of £650,000 — which these days can be easily eaten up by the family home, of course.

Plus, everyone has an annual exemption of £3,000 a year that they can give away and not be taxed on. And, if your surplus cash exceeds that, you can give it away free from Inheritance Tax if you live a further seven years.

But apart from that, the general view is that there isn’t much you can do to avoid Inheritance Tax, if your estate exceeds the stated limits.

Business Relief

I’ve news for you. The general view is wrong: there is something else that people can do to avoid Inheritance Tax.

Take a look at the section on Inheritance Tax on the HM Revenue & Customs website, and you’ll see that something called Business Relief applies.

Simply put, this includes unquoted shares — and as an government incentive to encourage investment in the smaller, high-growth shares quoted on London’s Alternative Investment market (AIM), the definition of “unquoted” actually includes shares that are quoted on AIM. Yes, I know it’s daft.

But stripped to the essentials, this concession means that shares held in AIM-listed companies at the time of death are exempted from Inheritance Tax.

In other words, for every £10,000 of AIM-listed shares held at the time of death, that’s £4,000 of Inheritance Tax handily sidestepped.

The small print

Now, rules apply. The good news: they’re not complex.

  • Shares have to be held for two years to qualify.
  • While shares have to be quoted on AIM to qualify, they can’t also be quoted on another market — which rules out foreign companies with a dual listing.
  • Shares in certain types of company, such as property companies and investment firms, aren’t eligible, either.

So while not every AIM-listed share is eligible for Inheritance Tax relief, a significant number are — many of which offer a respectable dividend income as well.

Family firms

Better still, among the ranks of these AIM-listed are some real jewels — family-managed businesses with generations of trading history, for instance.

Just such a description fits lighting manufacturer FW Thorpe and flooring manufacturer James Halstead. Halstead is also notable for possessing the best individual company dividend record of the entire London stock market, having posted unbroken increases in its dividend for 36 years.

Among retailers, you’ll find fashion specialist ASOS and Majestic Wines — the former having seen its shares soar from 3p to £70 in just over a decade.

And in hi-tech, healthcare specialist Advanced Computer Software and business systems specialist K3 Business Technology Group are worth a look — both being significantly-sized companies with long trading histories.

Weighing up risk

Now, it’s important to bear in mind that shares listed on AIM are generally seen as riskier than blue-chip shares listed on London’s main market.

So their shares prices can be more volatile, and it’s reasonable to assume that there’s a greater chance of a loss — although, in the case of names such as those above, their histories and size should mitigate against that.

Even so, some people will still look askance at AIM shares. In which case, think about it this way.

If you do invest in AIM shares to benefit from Inheritance Tax relief, you might — just might — incur a loss. But if you don’t, you’re certain to. Because, come what may, the taxman will take his 40%.

Shelter your assets

New to investing in shares? Not sure how to weigh-up and assess potential investments? Unclear as to where -- and when -- to start?

Much of what you'll need to know is covered by The Motley Fool's free special report "10 Steps To Making A Million In The Market", which I'd recommend you take a look at. Free to download, it comes without obligation--so click here to get your copy today.

The Motley Fool owns shares in FW Thorpe and has recommended shares in Majestic Wines. Malcolm doesn’t (yet) own shares in any of the companies listed here. But as he turns 60 this year, that might change!