'Beware the unintended consequences of the British Isa'

Similarly to environmental, social and governance funds, terminology may become an issue, as those who create the policy ponder whether it has achieved the objectives set for it, while advisers and their clients wonder whether the product they own corresponds with what it says on the tin. 

The first and already much-discussed issue is, how can a British asset be defined in a British Isa?

For example, the Scottish Mortgage investment trust is listed on the London Stock Exchange, a constituent of the FTSE 100 and run from Edinburgh by a man from the North East of England and a man from Scotland.

But a glance at the data from FE Analytics shows Scottish Mortgage has just 2.88 per cent invested in businesses listed in the UK, almost all of that is in one stock. 

The government’s plan in creating the British Isa is to provide capital to UK businesses in a world where outflows from UK equity funds ran at £8bn in 2023, with some of the rationale for the creation of the British Isa apparently being to provide capital to British companies. 

The path to tax-efficient prosperity is paved with good intentions, but can lead to bad outcomes.

So if a client asks an adviser to deploy the £5,000 of capital to make use of their British Isa allowance, and the adviser places some or all of the capital into a fund such as Scottish Mortgage, can an adviser be sure they are meeting suitability criteria, and investing in line with the client’s preferences?

That question mirrors the debate many industry participants have with clients around their sustainable investment preferences. 

And if a client goes down the direct equity (as opposed to listed fund route), that may be a cleaner option, but not necessarily one with greater clarity. 

For example, HSBC is a FTSE 100 listed bank, it even has a high street operation in the UK, and for a little while more, a big tower block in canary wharf with its name on it. 

But only around 10 per cent of its profits are actually generated in the UK, posing the same potential question around suitability. 

Concentration risk?

A useful precedent for the possible impact of the putative British Isa on markets may be the creation of the Aim (Alternative Investment Market), and the decision to designate the vast bulk of equities listed on that bourse as being eligible for business property relief.  

That rule, which means most Aim shares are exempt from inheritance tax, was designed to reward investors for choosing to place capital in earlier stage companies; businesses not yet ready for a listing on the FTSE, but with the potential to grow and aid the growth of the UK economy. 

What has occurred since then is a concentration of capital around the most liquid and largest of those companies. 

Many of those companies have significant family shareholders who consequently benefit from the IHT. 

Judith Mackenzie, head of Downing Fund Managers, has run mandates that invest in micro-caps and Aim shares and has highlighted the tendency of specialist IHT funds – that is, marketed on the basis of investing for IHT relief rather than on investment returns alone – coalescing around a small number of the most liquid shares at the top of the Aim market.

As those shares are in companies worth hundreds of millions, and potentially billions, of pounds, an investment there that captures IHT relief is arguably not really adding much in the way of growth capital to the UK economy. 

Nor has the Aim market been a particularly bountiful place for new companies – 2023 was the worst year for new listings there for 24 years. 

The British Isa is currently at the consultation stage and so may not see the cold light of the stock market for some time yet, but if and when it does, advisers and policymakers should be aware that the path to tax-efficient prosperity is paved with good intentions, but can lead to bad outcomes.

David Thorpe is investment editor of FT Adviser