Are we going to see changes to Inheritance tax or Capital Gains Tax?
When I first agreed to write this article it was assumed that the March budget would include provisions to tighten up Capital Gains tax (CGT) and Inheritance tax (IHT). But there were no announcements in the budget, instead the Chancellor announced that there would be consultation documents published on 23rd March. Again everyone assumed that the consultation documents would include proposals to tighten these two taxes. March 23rd came and went and there were indeed a raft of consultation documents but these all related to the Administration of taxes and did not seem to contain any moves to simplify or tighten taxes. Implicit in the consultations is the premise that improved and streamlined administration will increase the tax take, this particularly applies to the “making tax digital” project which is being imposed on a very reluctant business community who see it as increasing overheads and forcing them to pay tax sooner. However this is not something that is likely to be of much interest to the typical private wealth client.
Of most interest to such people is the promise that within 2 years the procedures for dealing with IHT returns for the estates of those not liable to tax will be simplified. Included in this project is the promise of online access. The last 20 years have seen the administration of IHT get increasingly complex and in many cases wasteful of time and effort and if this project can be made to work there is no doubt that it will be helpful. The writer fears that once again government will seek to encourage the DIY probate practitioner, something which always concerns him, not so much because of the business we lose to the DIY practitioner, but because the complexities of our tax system are such that DIY in all but the most simple cases can frequently lead to mistakes, often mistakes which are in favour of HM Revenue and Customs.
Other than this, the lack of any apparent changes to the taxation of Capital Gains or Inheritances has stolen my thunder. However it does leave the question in the air, how are we as a nation to pay off the costs of the Covid pandemic? At present the government seems to be taking the view that economic growth, inflation and low interest rates will do the job for us. That would be wonderful, but this writer doubts it. Against this we all know that CGT and IHT while often regarded as taxes to “even up” society raise a tiny fraction of the tax take, are hugely unpopular, (even with those who never pay them), and highly complex to administer. In simple terms they are not efficient taxes!
Even if this is achieved the Office of Tax Simplification has pointed to the complexity of both taxes and suggested a number of measures which might simplify these taxes but could also be used as a way to increase the tax take. This writer tends to suspect that measures to simplify both taxes will almost certainly be considered, these could be implemented to be tax neutral or to raise revenue although some measures, particularly in relation to CGT would almost certainly be aimed at increasing revenue from day one.
So, let’s look at the suggestions that I find most interesting.
- Remove the 7 year Potentially exempt transfer rule from IHT and replace it with a much higher annual allowance. Anyone seeking to exceed the annual allowance would pay IHT on the surplus and there would be no cumulation of gifts over a period of years. This sort of arrangement would be popular with many but would hit those wanting to make large one-off gifts. This sort of arrangement would make life much simpler removing the need for complex record keeping and could be used either in a tax neutral or a tax gathering manner. There has also been the suggestion that this could be linked to the removal of the “Normal Expenditure out of Income” exemption.
- Tightening up on the availability of business property relief and trying to align some of the rules between IHT and Income tax. This would almost certainly be a tax raising measure and would probably be unpopular with many people in the business community who would regard it as double taxation, unless the measures were purely directed at investors rather than at the owner manager. For example, is there any logic in giving business property relief to someone who invested in the AIM market or in woodlands for purely tax planning reasons?
- Even up the rate of CGT. This last happened in the 1980s but in those days the top rate of income tax was 33%, somehow a top rate of CGT of 45% does not sit easily. This is all the more the case when it is apparent that the majority of CGT is paid by a relatively small number of taxpayers who are being taxed on one or more large transactions. This ties in with the writer’s experience that most of his clients who pay significant amounts of this tax are paying as a result of a one off, sometimes life changing transaction, and are not in the habit of making regular transactions leading to Capital Gains. What this could mean is that for a person who has spent a lifetime owning an asset, usually some sort of business or property, sells that asset for a large sum of money which often intended to be a pension pot, suddenly finds that because there are large amounts of Capital gain as much as 45% of that gain goes to HMRC. This writer feels that if this was done there would be an outcry and a need to introduce some sort of “Averaging” or “indexing relief”, this is hardly what a government would want to do if it is talking about tax simplification.
- Reduce the annual capital gains allowance. Would this actually raise much tax, and would it distort taxpayer behaviour? What about the old, and valid accusation that CGT is a tax on inflation and the allowance is a simple way of compensating the for that?
- Still on CGT there is the suggestion that the so called “free Capital Gains uplift” on death should be abolished in all cases where the assets involved benefit from an IHT relief such as Business Property Relief or Spouse relief. This is when someone dies all previously untaxed and saved up Capital Gains are wiped out and the person inheriting is deemed to have purchased the assets involved for a price equal to the value of those assets on the date of death. The logic of this suggestion is that the tax-free uplift distorts taxpayer behaviour and offers a very useful tax planning tool to families. Example: Husband dies and son inherits family business. The business is pregnant with Capital gains but is eligible for 100% Business Property Relief for IHT purposes. Son having inherited tax free immediately sells the business, no IHT or CGT is payable. Bingo! The suggestion is that in place of the Capital Gains Free tax uplift there should be an automatic entitlement to holdover relief. That would mean that in the above example the son would escape IHT but on the sale would have to pay CGT on the cumulative Capital Gains. For the government this is a very attractive proposal but dealing with Holdover claims is a nightmare and the idea that this should be put forward as a tax simplification seems to this writer to be a complete oxymoron. That said it is one of the ideas that has gained most currency in recent months.
- One other suggestion that has been around for a while is a temporary annual wealth tax of 1 or 2% on all wealth over £500,000. There has been lots of talk about this, but this seems to have subsided and now seems much less likely.
This article has already gone on for too long. The subject is one that fascinates the writer, whether or not anything will happen remains to be seen. From a tax raising perspective the changes mentioned above would raise tax but the amount is relatively small. From the point of view of tax simplification most of the idea seem to fail dismally with each idea that simplifies the system leading to the need for some sort of complex relief to cover special situations. At the end of the day the secret of raising more tax for government is to raise direct taxes across the board, namely the basic rate of income tax, the rate of VAT and to a lesser extent National Insurance. The government has pledged not to increase these but instead they have opted for the use of “fiscal drag” with the freezing of tax allowances for 5 years. By doing this they have not broken the letter of their election pledges, but arguably have instead broken the spirit of those pledges. Perhaps that will achieve what is desired, but yet again it is another of those slights of hand, the so called “stealth taxes” that have become so popular with successive Chancellors of the Exchequer during the last 25 years.
For more advice on taxation issues particular those relating to inheritance tax contact the Private Wealth Team.
This reflects the law at the date of publication and is written as a general guide. It does not contain definitive legal advice, which should be sought as appropriate in relation to your own particular matter before action is taken.
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We are solicitors in Camberley, Wokingham and London. In 2019, Herrington Carmichael won ‘Property Law Firm of the Year’ at the Thames Valley Business Magazines Property Awards, ‘Best Medium Sized Business’ at the Surrey Heath Business Awards and we were named IR Global’s ‘Member of the Year’. We are ranked as a Leading Firm 2020 by Legal 500 and Alistair McArthur is ranked in Chambers 2020.