A new report calls for the abolition of IHT, and comes just in time to catch the attention of the government’s review of the tax
You may have seen reference in the press to the Intergenerational Commission report from the Resolution Foundation on options for inheritance tax reform. It is extensive, thoughtful and pulls no punches. It certainly has a point of view.
Come to think of it, IHT has been in the news a lot over the last few months.
We have had the chancellor’s call to the Office of Tax Simplification to review it, mostly with regard to its administration but also how the current gift rules interact with the wider IHT system and whether the framework causes any distortions to taxpayers’ decisions surrounding transfers, investments and other relevant transactions.
We have also had a new disclosure of tax avoidance schemes hallmark telling us what schemes need to be notified for a Dotas reference number.
Of course, having a Dotas reference number does not imply that a scheme will fail in its purpose, nor does it represent any form of approval.
That said, it is good to know most of the schemes commonly used by financial planners will not have to be registered.
The long list of acceptable and non-contrived (so non-notifiable) arrangements includes straight gifts to trust, loan trusts and business relief schemes. In addition, it seems discounted gift trusts that are substantially the same in form as those entered into before 1 April will also be treated as “related transactions” and excluded from the need to register.
Unpopular and unfixable
So, back to the Resolution report. What does it focus on? Well, pretty much everything: root, branch, leaves, bark. The whole enchilada.
Its underlying premise is that IHT is unpopular and unfixable. It illustrates the dichotomy represented by a tax that is easy to avoid but which generates anger.
It also explains how the tax does little to encourage meaningful redistribution of wealth and, as a result, perpetuates its consolidation in currently wealthy families.
Some of the highlights underpinning these conclusions are as follows:
- Inheritances and other gifts totalled £127bn in 2015/16
- Inheritances have more than doubled over the past 20 years
- Inheritances (especially in the form of inherited housing from baby-boomer parents) are substantially boosting the wealth of millennials
- The average age for “millennial inheritance” is 61
- Among older millennials (born 1981-85) the top 10 per cent owned 54 per cent of the group’s net wealth by age 30
- IHT is now limited in scale. For every £100 raised in taxes nationally (£708bn in total) just 77p comes from it: approximately £5bn in total
- Although wealth transfers are increasingly important, the IHT yield is relatively low. Of the £127bn of inheritances, the £5bn in IHT represents an effective rate of about 4 per cent. Between 2006/07 and 2022/23, IHT receipts are forecast to grow less than a quarter as fast as inheritances.
The big idea
The Resolution Foundation’s big idea is to abolish IHT and replace it with a ‘lifetime receipts’ tax: a tax on the recipients as opposed to a tax on the givers. It says such a change would deliver both practical and perceptual benefits.
It accepts IHT is a politically sensitive tax, with parties’ views being about the effect on the electorate. However, it believes a change must be made for the good of greater intergenerational fairness. A lifetime receipts tax would not be without precedent, as a receipts-based tax is currently in operation in Ireland and France.
The proposal is founded on the following two principles:
- A person would need to keep track of cumulative receipts, excluding gifts of £3,000 or less (per donor per year) and gifts from spouses/civil partners. The current additional exemption for “normal gifts out of income” would be abolished.
- There would be a cumulative lifetime receipts tax allowance of £125,000 (indexed to inflation). With the tax founded on this basis, Resolution’s modelling shows a much lower rate than 40 per cent could be used while bringing in substantially more in tax revenue. A basic rate of 20 per cent and a top rate of 30 per cent above £500,000 is suggested. Based on this, assuming currently forecast rates of inheritances and gifts, the receipts tax would generate £11bn annually in tax, compared with the forecast £6bn under the current system.
Other points include:
- Restrict business property relief and agricultural relief (including within trusts) to small family businesses by:
1. Introducing a cap (for example, £5m) for the value that can receive relief
2. Increasing the minimum ownership period from two years (for example, to five), and introducing a period after receipt in which tax relief can be clawed back if the inherited assets are sold on
3. Introducing a “farmer” test for agricultural relief – as in Ireland and France, whereby the overall assets of the beneficiary (including the inheritance) must comprise at least 80 per cent agricultural property – and a “family business” test for business property relief, whereby the beneficiary must receive at least 25 per cent of the business and the donor must have had a demonstrable working relationship with the company.
- Redesign the trusts tax regime to reflect the lifetime receipts tax
- Remove the tax-free treatment of pension pots inherited on deaths before 75, and for recipients other than spouses levy both the lifetime receipts tax and income tax on pensions to give parity with other assets
- Scrap forgiveness of capital gains tax upon death, at least for additional residential properties and assets qualifying for business property relief or agricultural relief.
Beyond the brief?
According to the report, the benefits will be as follows:
- A progressive recipient-based tax could give donors an incentive to leave bequests to those that have not received much before
- The lifetime receipts basis (with no more seven-year only cumulation) would remove many ways to avoid tax
- Business relief (cost £710m per annum) and agricultural relief (£515m pa) could be reviewed and better targeted to remove any predominantly tax-driven motivation for owning the assets.
So, some pretty radical stuff. And with the timing as it is, all these suggestions will not go unnoticed by the Office of Tax Simplification in carrying out its review of IHT – though it is by no means certain any of what has been put forward will be incorporated. A fundamental shift to a lifetime receipts basis of taxation may be a bit beyond its brief.
Whatever may or may not result from the review, we are reminded again of the importance of IHT in intergenerational planning. As with all tax planning, while there may be a lot of noise around what might be, plans can only be built on what is, but with a commitment to keeping it under regular review in light of both changing legislation and personal objectives.
Tony Wickenden is joint managing director of Technical Connection. You can find him Tweeting @tecconn