IHT – a highly emotional subject

I wrote recently about why I see IHT as a tax that should be abolished. My argument was based on it attracting small revenue at great cost (both in collection and to the reputation of HMRC as ghoulish. To these arguments I can now add a third, that abolishing IGT would lead to a transfer of productive capital from the gullible rich to the needy savers in workplace pensions.

This further argument was brought to my attention by Citywire and MICAP, who have revealed a huge market in IHT mitigation funds, which apparently will unwind if the Chancellor eliminates the problem they are trying to solve.

Even by the carnal standards of the asset management industry, the “special pleading” of some asset managers to keep inheritance tax in place or face a sell-off of funds used to mitigate inheritance tax – takes some beating.

The article, clearly inspired by the fund managers who have most to lose claims that

The prime minister’s election pledge to scrap inheritance tax could have dire implications for AIM and UK private markets, potentially creating large forced sellers.

So let’s take a step back. The “forced sellers” are the rich folk who have invested in long term assets which pass freely to their heirs inside certain tax structures.

These tax structures are engineered by asset and wealth managers. Investments in certain AIM shares can mitigate IHT due to business property relief (BPR) rules. Certain unlisted UK growth companies also qualify.

This has attracted investors into the struggling junior market, with the “reprieve” of a 40% tax break.

Heads you win, tails you only lose a proportion of your investment.

What nonsense!

Are investors really so gullible as to be forced out of these investments because one of the tax-breaks they are currently getting is negated by their not having to pay the tax in the first place?

I would have hoped that these investors would have invested in long term assets with a hope of getting a long-term return, and were they to die before they sold their investment, the investment would pass to their heirs.

It really is extraordinary silly to market funds that invest for the future as an insurance against the investors having no future. The idea is nonsense.

Who’s behind this nonsense?

We are told that

There are several large IHT services run by wealth and asset management firms to provide these products.

This is not a niche business

The combined assets in AIM and unlisted IHT products add up to a sizeable £15.1bn.

According to research firm Micap, assets in AIM-focused IHT products amount to £6.3bn, and represent approximately 7.4% of AIM’s £85.7bn market cap.

The market for unlisted IHT products is even bigger, amounting to just shy of £8.8bn.

And here are the leading players

The largest player in the AIM IHT market is Octopus, with its portfolio standing at £1.6bn. Other key providers include Canaccord Genuity (£680m), and Investec Wealth & Investment (£667m).

Many of these companies flagrantly market the packaging of these AIM stocks as “IHT funds”.  Business Property Relief is being granted to invest in stocks with the purpose of mitigating future taxes, not growing the UK’s smaller companies.

So who would these assets be sold to?

Assuming that investors who had been led to hold these assets now decided to sell up , because they had no more IHT tax worries , we might speculate who the buyers might be.

These funds are primarily invested in AIM and have had a bruising run. Bizarrely, Citywire worry about the vulnerability of these funds – because they are offering so little value for investor’s money.

However, the likelihood is that there would be a significant run on these funds if the tax incentive ceased to exist. Fees are high for these strategies compared with other UK small-cap funds, and the long-term performance of AIM has been disappointing.

Over five years, the AIM All-Share index is down more than 32%. Despite the cherry-picking approach of AIM IHT portfolios resulting in less severe losses, there are clearly more attractive investment propositions available to investors — especially those who are at a later life stage, with a lower appetite for risk.

The only thing that appears to  keep investors hanging on is the 40% tax-kicker, available when they die. In all other respects, these funds seem to be unsuitable.

They will become even more unsuitable if – as the managers predict – a fire sale occurs if and when IHT is abolished. Expect to see these  AIM funds tank as they see redemptions on the way.

Even more dire predictions surround the sale of funds investing in unlisted securities. One manager even has the chutzpah to suggest that these tax-mitigation schemes are fulfilling the aim of the Mansion House reforms.

One fund manager told Citywire

“scrapping IHT would be ‘diametrically opposed’ to chancellor Jeremy Hunt’s Mansion House plans to drive capital into UK high-growth businesses”.

This is more nonsense. There are of course buyers for listed smaller companies- and even more so for unlisted securities managed by specialist managers such as Foresight.

Occupational Pension funds, particularly in the LGPS, use Foresight and others to manage up their exposure to the lucrative venture capital space, focusing on regional investments that help them level up.

The Compact of life companies agreeing to hold 5% of workplace pension assets in these assets, will be delighted to hear that there will be a ready flow at discounted prices.

These investors are buying to hold – something that the underlying companies invested in – need.

The early stage businesses who benefit from funds through Foresight and Time should be horrified to know that the capital base of their companies is at risk from a fire sale generated by the loss of tax privileges. They should be comforted with the prospect of more suitable owners going forward

Fuel to the fire

Any Treasury official reading the special pleading of some of these companies should be laughing.

If a side-order to the main dish of banishing an unpopular and inefficient tax is the transfer of productive capital from the wealthy to the needy – so be it. If IFAs advise their clients to ditch perfectly good investments and workplace pensions pick them up then the Government has had a double win.

The special pleading of IHT mitigation funds should only add fuel to the Treasury’s fire.