Liz Truss is wrong on Inheritance Tax
It shouldn’t be abolished – Reform ahead of revolution
A former Prime Minister, former Chancellor and more than 50 Tory MPs have called to abolish Inheritance Tax in the UK. At an event in Leeds last week, Liz Truss proclaimed: “Our tax system in Britain isn’t working, it is too complicated…I would also look at Inheritance Tax.”
I completely agree with Truss’ sentiment around the complexity of the UK tax system, but is completely abolishing a tax a sensible solution?
What is Inheritance Tax?
Inheritance Tax can be traced back to legacy and estate duties in the 17th century. These were taxes levied on the transfer of property upon death and they were initially imposed to finance wars. Today’s Inheritance Tax came into effect in 1986, and replaced Capital Transfer Tax, and was intended to simplify the regime. The basic premise was to levy a flat rate tax of 40% on the estate of a deceased individual above a threshold. Sounds simple enough. However, a myriad of exemptions, reliefs, deductions, and Government tinkering has created a web of complexity and administrative headache for the taxpayer and HM Revenue & Customs.
Opponents to Inheritance Tax have made compelling arguments to abolish it; the primary argument being that people should be able to freely pass on assets to whomsoever they wish when they have already paid Income Tax on earning the money, VAT on the purchase of most services and assets and Capital Gains Tax on investment growth. It is double taxation, but this exists throughout the UK system.
But if you abolish Inheritance Tax, the Government presumably needs to replace it with something else or increase other taxes to reflect that there would be no tax levied on a person’s death. To balance the books, the Government would need to look at reducing the State Pension by 7% or increase Income Tax rates by 1%, or possibly both.
How much does it raise?
Fact check – Inheritance Tax actually raises more than you think for the Treasury. Inheritance Tax generated £600 million in April 2023 alone – £100 million higher than the same period a year earlier. Inheritance Tax receipts have been trending upwards since the Coalition Government in 2010 and under subsequent Conservative majority governments. In 2010/11, Inheritance Tax was worth less than £3 billion to the Treasury, representing around 0.5% of total tax receipts. In the current tax year, the Office of Budget Responsibility is forecasting Inheritance Tax to raise £7.2 billion, increasing to a massive £8.4 billion by 2027/28 – representing over 1% of total tax receipts.
To put Inheritance Tax receipts into context, the Labour Party’s proposal to abolish the Non-Dom tax status claims to generate £3.2 billion per annum which would apparently pay for 7,500 more doctors and 10,000 more nurses and mid-wives a year.
How could Inheritance Tax be reformed?
One of the policy objectives behind Inheritance Tax is re-distribution of wealth, although there are serious question marks around whether it serves this purpose because of how it currently operates. Inheritance Tax affects the wealthiest households with the top 10% of estates accounting for almost entirely the total tax take. Abolishing Inheritance Tax would benefit the wealthiest 4%. One alternative to address the wealth distribution challenge would have to be a wealth tax – attractive for any present Government because you collect the tax sooner during lifetime, but do you want to abolish a tax to introduce a complicated new one, which in itself, would be deeply unpopular.
Abolishing Inheritance Tax without a back-up plan is not viable in my view, but the current system isn’t working and overhauling Inheritance Tax, alongside the wider capital taxes regime needs to be considered to achieve the policy objectives. Here are my three suggestions for the Government to reform Inheritance Tax.
- Unfreeze allowances and the thresholds – The £325,000 Inheritance Tax nil rate band will have been frozen for almost 20 years and should now be worth £469,000 had it been increased with inflation. The £3,000 annual gift exemption has not changed at all since its introduction in 1981 and should now be worth over £10,000.
- Scrap the exemptions, reliefs and allowances and reduce the Inheritance Tax rate to 20-25% – The headline 40% Inheritance Tax rate causes the most surprise and concern, forcing many estates to plan around Inheritance Tax. The wealthiest estates can legally and practically avoid Inheritance Tax through simply giving away their worldly assets seven years prior to the death.
- Abolish Inheritance Tax and replace it with a lifetime gifting allowance and Capital Gains Tax on death – In the US, there is a lifetime estate and gift exclusion of $12.92 million before tax becomes payable. A simple lifetime gifting allowance would be combined with applying Capital Gains Tax on death, currently 20%, and 28% for residential property. I particularly favour this option as it would considerably simplify the system and harmonise our two main capital taxes.
I don’t disagree with the Truss sentiment but there are better ways to reform our tax system than by starting to completely abolish taxes without any viable alternative.
Would you like to know more?
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