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Heir cut from coalition plans

Gregor Watt and Lee Jones assess the taxation situation with the coalition Government dropping the Tories’ election pledge to raise the inheritance tax threshold to £1m

The result of the general election and the formation of the coalition Government has pushed Conservative plans to increase the nil-rate band for inheritance tax to the bottom of the list of priorities for the new Government.

In their election manifesto, the Conservatives said increasing the current IHT threshold from £325,000 to £1m was a key part of their proposals to encourage people to save.

The manifesto said: “We will raise the inheritance tax threshold to £1 million to help millions of people who aspire to pass something on to their children, paid for by a simple flat-rate levy on all non-domiciled individuals.”

However, the coalition Government and the conflicting demands of the Tories and the Liberal Democrats seem to have already pushed this election commitment down the list of priorities for the new administration.

The statement put out by the new Government outlining its policies spells out the current view on IHT.

It says: “The parties agree that the personal allowance for income tax should be increased in order to help lower and middle income earners.

We agree to announce in the first Budget a substantial increase in the personal allowance from April 2011, with the benefits focused on those with lower and middle incomes.

“We also agree to a longerterm policy objective of further increasing the personal allowance to £10,000, making further real terms steps each year towards this objective.

We agree that this should take priority over other tax cuts, including cuts to inheritance tax.”

For clients who have significant assets that will become liable for IHT, there are concerns that not only will the planned increase in IHT nil-rate band not materialise but also that the IHT rules could be tightened.

Heron House Financial Management IFA Saran Allott-Davey warns that the need to raise more tax leaves a number of areas of personal taxation vulnerable to reform.

’Nil-rate band trusts are a safe way of saving inheritance tax and without committing trustees for the long term’

She says in addition to a potential increase in the CGT threshold or an increase in the rate at which CGT is payable, the seven-year time limit for potentially exempt transfers for IHT could be extended.

Speaking before the election Allott-Davey said: “There is almost certainly going to be a tightening of tax policy. In just a few months, many people may be pleased to have taken opportunities while they had the chance.”

Although we now have to wait to see the outcome of the emergency Budget, promised within 50 days of the formation of the coalition Government, any lack of action on IHT would leave people with the effect of the Labour Government’s freeze on IHT to deal with.

In Alistair Darling’s last Budget in March, the IHT nilrate band was set at its current level for the next four years, which means that if inflation continues to pick up and if house prices continue to increase, more people will become liable to the tax.

Figures from IFA Promotion show that nearly £2bn is paid unnecessarily in IHT every year due to a lack of estate planning and taking simple steps such as writing life insurance policies in trust and this amount is set to increase if inflation continues at its current pace of 3.4 per cent.

Vantis Group head of private clients Chris Maddock says: “Freezing the inheritance tax threshold for the next four years is a far less overt tax rise than raising the actual rate but with inflation, this will increase the tax take as more taxpayers become ensnared in the longer term.”

Baker Tilly head of tax George Bull explains this will actually be of benefit to the new Chancellor.

He says: “Inflation will also affect the take from capital taxes – capital gains and inheritance tax. The CGT exemption has been held at last year’s level of £10,100 and the IHT nil-rate band remains, at least for now, at £325,000. Those taxes have historically been criticised as a tax on inflation. Even when tax allowances are uprated, there is a lag as the allowances are only adjusted to take account of the historical increases.

“So long as inflation does not spiral out of control and while he battles to control the deficit, the new Chancellor may not be too worried to receive the occasional letter from the Governor of the Bank of England explaining why inflation is running above target.”

The increase in house prices in the first quarter of this year will also contribute to the numbers of people who will become liable for IHT in the coming years. According to the Nationwide house price index, house prices rose by 1 per cent in April and price increases are in double digits over the last 12 months.

As a result, there are IHT and estate planning measures that can be put into place.

Paul Davies, partner at law firm Lane-Smith & Shindler, says: “The current freeze on the inheritance tax allowance will lead to the resurgence of the nil-rate band trust in will planning. These trusts were until recently being dismissed by legal professionals but now they are being viewed much more favourably. The recent rise in house prices, should it continue, will develop interest in the nil-rate band trust. Even a combined allowance for spouses of £650,000 might prove quite low as the expected housing market recovers. Nil-rate band trusts are a safe way of saving inheritance tax and without committing trustees for the long term.”

However, with the coalition Government still in the process of thrashing out its position on a number of issues, the position on IHT and several other personal taxation issues remains uncertain.

Davies says: “The situation is very fluid concerning inheritance tax. Those planning or reviewing inheritance tax arrangements should keep abreast of the situation.”

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