Using an AIM IHT ISA to make ISA wealth IHT-free
You may know that ISAs aren’t exempt from Inheritance Tax and can incur a 40% IHT bill. But did you know how an investment into an AIM ISA and use of the Additional Permitted Subscription can help?
ISAs and IHT
For more than two decades, Individual Savings Accounts (ISAs) have been the most popular way to save and invest tax-efficiently. Yet many people are unaware that an ISA’s tax incentives don’t include exemption from Inheritance Tax (IHT). In fact, an ISA could be subject to a 40% IHT bill when included as part of a person’s taxable estate, significantly reducing the potential inheritance intended for their beneficiaries.
Understanding the Additional Permitted Subscription
Although someone who is married or in a civil partnership does not pay IHT on money or property left to them by their spouse, until recently any investments held within an ISA lost their tax benefits when transferred to the surviving spouse.
However, since 2015, a surviving spouse or civil partner is able to ‘inherit’ the tax benefits of their deceased partner’s accumulated ISAs. This is called the ‘Additional Permitted Subscription’ (APS) and means that any accumulated ISA could effectively be inherited by a surviving spouse or civil partner in the form of an increased ISA allowance for them, provided that they were living with the deceased within the meaning of section 1011 of the Income Tax Act 2007 at the date of the deceased’s death.
Once an APS has been arranged, the surviving spouse can keep the accumulated ISAs with the same product provider, or transfer to a new provider of their choice. Where an investor held ISAs with several companies, a separate APS is available for each. The APS doesn’t affect the surviving spouse’s own annual ISA allowance (£20,000 for the 2020/21 tax year).
To put this into context, here's a case study to explain this further.
Estate planning through an inherited ISA
Susan and David were married with two adult children before David passed away. David’s entire state was left to Susan – including the family home (valued at £1 million) and his ISA investments. David opened his first ISA back in 1999 and had accumulated ISAs valued at £200,000
The problem: leaving wealth to beneficiaries after IHT allowances are used up
David had not written a will, so his entire estate – including the family home and his Stocks & Shares ISA (valued at £200,000) – went to Susan. Susan understands she will need to start planning for her own estate for the family wealth to be passed on to her children.
Susan’s financial adviser explains that now the house is in her name, as the surviving spouse she can leave it to her children, making use of the combined nil-rate band for couples and also transfer the unused Residence Nil-Rate Band (RNRB) inherited from David.
However, the adviser also informs Susan that as things stand, her husband’s accumulated Stocks & Shares ISAs will be subject to IHT. Without any available allowances left to claim, a 40% charge on the accumulated ISAs would leave an IHT bill of £80,000. Split equally between her two children, this would leave them with an ISA inheritance of just £60,000 each.
The solution: transferring inherited ISA wealth into an AIM ISA for estate planning
Susan’s adviser explains that with careful estate planning, Susan’s ISAs could achieve full IHT exemption, so both children inherit the full £100,0000. He explains the benefits of using the APS, and gives her the information she needs to contact David’s ISA providers and confirm the amount available to transfer.
After assessing Susan’s own investment objectives, her attitude towards risk, her capacity for loss and her personal circumstances, her financial adviser recommends an AIM IHT ISA.
The adviser points out that as well as making a one-off investment that matches the value of David’s accumulated ISAs, she can also make new investments into the same ISA, up to the annual allowance of £20,000. Susan could also transfer any ISAs held in her own name if desired.
Once Susan has held the AIM IHT ISA for at least two years, the Business Relief (BR)-qualifying shares can be passed to her children free from IHT as long as she still holds these on death.
Understanding the investment risks
Susan’s financial adviser spent a considerable amount of time explaining the risks and charges associated with this investment. He explained that a new AIM IHT ISA will invest in shares of AIM-listed companies, the shares of which are more volatile and carry a far higher risk than shares listed on the main market of the London Stock Exchange. AIM-listed shares may also be harder to sell.
The adviser also reminded Susan that an ISA should be considered as a long-term investment. The value of investments can go down as well as up, and the investor or their beneficiaries may not receive the full amount invested. Because this ISA is intended for tax planning purposes, the adviser told her that tax rules can change, and that tax reliefs are subject to personal circumstances. HMRC will only assess whether the individual investments within the AIM ISA qualify for BR after death, and claiming BR will depend on whether each company qualifies at that time.
Getting in touch
If you’d like to receive more case studies from us or discuss how the Additional Permitted Subscription can address your clients’ estate planning needs, please get in touch on 020 7408 4070 or firstname.lastname@example.org. We look forward to hearing from you.
The case study scenario is for illustrative purposes only and assumes no gains or losses on investments. The advisor will need to consider the eligibility and timings of tax reclaims and tax liabilities depicted, and the impact of charges, as relevant to the offering(s) represented and/or any specific offer chosen. Tax reliefs depend on the individual investor’s circumstances and may be subject to change. This is for financial professionals only and not to be read as tax advice.