Property values may have increased by 106% in the past decade but inheritance tax thresholds have not that’s why IHT planning should be a high priority for clients of all ages.
Over the past ten years, the number of estates liable to pay inheritance tax at 40% has increased from 19,500 to almost 50,000. This has arisen because individual’s principal asset, their family home, has increased at a greater rate than the threshold at which the taxation liability kicks in.
In 2000, the average family home in the UK was valued at £81,000 and the inheritance threshold was £231,000. Today, the average house price is £167,000 and the inheritance tax threshold is £325,000, an increase of 106% and 45% respectively.
A survey in February this year highlighted IHT was a major concern for both financial advisers and their clients. If you consider how many people are now captured within the threshold it is perhaps not surprising inheritance tax planning has taken a more prominent stage for financial advisers and their clients and an increasing number of estates will need to consider IHT planning.
However, it is worth noting the number of cases paying some form of death duty today is at its lowest level since 1939 when records were first available; back then, some 30% of the population were caught.
Most people have gone through their lives without any consideration for IHT planning, mainly because they believe that it affected only the rich. This is no longer the case and many issues being faced today by families are a direct result of being dragged into the tax net by stealth means. This now means many elderly investors should take immediate action if they wish to prevent their families from facing increasing tax liabilities.
IHT planning can assist clients and their families to focus their minds on their current financial situation and how they might deal with any benefits, or indeed start planning for their own estates with guidance from advisers. Subsequently, as we move through the generations, awareness and planning for IHT comes more and more important.
Alternative Relief
As times passes for older clients, the more traditional routes of planning, such as gifts and any form of trust, which require the donor to live for a further 7 years to be valid, become less certain solutions. A further concern is that this type of planning removes control of the capital from the donor.
However, there are alternatives; one of these is to make use of opportunities which qualify for Business Property Relief (BPR). An investment in BPR qualifying trades results in the liability to IHT being completely mitigated after only 2 years of ownership and all the investments can be made in the client’s names, providing them with complete control as to how matters can be dealt with on their passing. There is a wide range of activities that qualify for BPR and as its names suggests relief from IHT can be applied to any trading business with the notable exception of financial services companies.
Mitigating Matters
In the survey conducted in February, it was found 80% of advisers are now more likely to look at IHT mitigation opportunities than in the past and that wealth preservation is now the most common concern they have for the clients.
So, as with any business investment, clients would like IHT products to offer both tax shelter and growth. At present, market focus is on mitigating tax, with some products providing capital value but by using insurance they can offer clients piece of mind that capital value will not be eroded.
However, what advisers should be seeking for clients is the ability for growth as well as shelter. Trust planning can achieve this, but it does mean the individual losses control of their affairs. An investment through a BPR qualifying scheme, where control remains and qualification for IHT relief applies after two years is therefore an attractive alternative. The most common examples of BPR qualifying schemes available at the moment are AIM stocks, property development and commercial forestry.
AIM’s roller coaster returns
As AIM is the most common of these we will focus on this market for a moment. As a junior stock market in the UK, designed specifically for a small and growing companies, it is a volatile market, one that can offer a roller coaster ride of returns. As such, a good discretionary fund manager is essential for anyone who is seeking growth and tax mitigation.
Unfortunately, a recent review highlighted not all AIM fund managers who offer IHT mitigation services are delivering much more than tax mitigation. The review showed the AIM market lost more than 35% of its value over the last 4 years; however an investor in the top portfolio it would have actually increased by 6% over the same period.
In light of such uninspiring returns, it is not surprising advisers seeking the best possible products for their clients have tended to focus on understandably popular capital protection additions for IHT mitigation products.
However, we believe the demands on accountants and advisers will increase over the next few years, particularly if baby boomers take on their own estate planning alongside that of their parents. When planning further ahead, the requirement for growth and tax mitigation is stronger.
As such, clients will be demanding more from their IFA and Tax Adviser in terms of inheritance tax planning in the future and it will become an essential part of most clients’ holistic financial planning process.
