Many AIM shares are free from inheritance tax (IHT) if held for two years, but a cut in IHT could significantly reduce that appeal.
Laith Khalaf, head of investment analysis at AJ Bell, comments:
“If Jeremy Hunt decides to cut inheritance tax, there could be unintended consequences for London’s junior stock market. Many AIM shares are free from IHT if held for two years or more, and a cottage industry exists to provide consumers with professionally managed portfolios specifically designed to mitigate IHT by investing in London’s junior market. DIY investors can also hold AIM shares through a broker to the same effect. Drastically cutting back inheritance tax could undermine the need for this protection and with it demand for AIM shares, though the effect this might have on market pricing is hard to gauge.”
“That’s mainly because it’s difficult to assess how much is held in the AIM market purely for IHT purposes. Individual investor holdings don’t come with an explanatory backstory attached, and professionally managed AIM portfolios are run by diverse wealth managers with no centralised, granular data on the amount of assets under management. Figures from the ONS give us the best available insight. The good news is that just over half of the AIM market is held by overseas investors, who don’t have a dog in the IHT fight. A further 9% is held by unit trusts, which don’t qualify for the IHT exemption, as AIM shares need to be held directly. However 24% of the AIM market is held by individual investors, or on their behalf by a financial institution, compared to just 8% of the FTSE 100.”
“For those who have invested in AIM to mitigate IHT, an inheritance tax cut wouldn’t mean everyone immediately heading for the exits. But some may reassess their position and gradually drift away into less risky areas, especially seeing as professionally managed AIM portfolios often come with relatively lofty costs, including associated financial advice. Fresh AIM investors may be harder to come by too, if such a big tax break is watered down by a cut in the underlying tax. Probably the bigger risk would be that an IHT cut spooks other investors who sell down their holdings in fear of a significant drop in demand.”
“Given the lack of data on how much is held in AIM for IHT purposes, it’s hard to say how big or small any such reaction might be. It’s notable that rumours of an IHT cut haven’t shaken the AIM market, which is up 6% since the beginning of November. That suggests for now, an IHT cut isn’t something the market is worried about. It also shows there are plenty of other factors at play in the AIM market, most notably right now the prospects for inflation and interest rates. Increased expectations that interest rates have peaked have boosted UK shares, big and small, over the last month. That’s helped but this year has still been poor on AIM, with the market down by 12% since the beginning of 2023.”
“The extent of any AIM market reaction would also depend on what IHT changes the chancellor might pull out of his hat. Moving the IHT thresholds up a bit probably wouldn’t even cause a flutter, but a cut in the rate to 20%, or indeed an abolition, could have more meaningful effects. Of course, we may not get any change to IHT whatsoever; it’s probably quicker to count the taxes that haven’t been trailed for a cut ahead of this Autumn Statement than those that have. It’s also possible the chancellor may announce policies which are favourable to the AIM market, for instance there have been some rumours about channelling ISA funds into UK shares.”
“Stepping back a bit, the AIM market has been a bit of a curate’s egg since its inception in 1995. There have been some extraordinary successes like Domino’s, YouGov, and Jet2, and some active managers have made hay in this less scrutinised area of the market. But there have been flops too, and as a whole, the market has failed to deliver for investors. Over the last 10 years the FTSE AIM All Share has returned just 2% and over 20 years it’s returned only 11% (source for returns data: FE, total return). It’s a salutary reminder not to let the tax tail wag the investment dog, and that if you’re investing in AIM, stock selection has to do a lot of the heavy lifting in delivering long-term returns.”