The Office of Tax Simplification (OTS) report into simplifying the design of Inheritance Tax (IHT) makes for interesting reading, but at 107 pages it’s a long one!
Here’s a bullet-point summary of the main points:
Lifetime gifts
- Currently a donor must survive for seven years before a gift falls out of their estate for IHT. The OTS proposals would see this reduced to five years.
- A new personal gift allowance would be introduced to replace the £3,000 annual allowance and the £5,000 allowance for gifts in consideration of marriage. These are long overdue for renewal with the annual allowance being unchanged since its introduction in 1981.
- Donors can currently gift excess income without IHT consequences using a ‘normal expenditure out of income’ exemption. The proposals would see this exemption reformed or withdrawn.
- Taper relief can reduce the IHT payable on gifts in excess of the nil-rate band which are made more than three years before death. The relief is poorly understood and not widely used and these proposals would see it abolished.
- IHT on lifetime gifts is payable by the person who received the gift. With the nil-rate band being allocated against earlier gifts first it is possible that two people receiving the same monetary value could have very different IHT liabilities. These proposals would see the IHT liability on lifetime gifts either being payable out of the estate or being shared amongst all recipients in proportion to their gift.
Interaction with Capital Gains Tax
- The report proposes that the capital gains free uplift on death be removed for certain assets. This one requires more explanation:
Some assets, such as business property or shares, can be gifted during someone’s lifetime or on death without any inheritance tax being payable due to the reliefs available.
Currently there is a ‘capital gains free uplift’ on death meaning that assets are inherited at the market value for capital gains tax so beneficiaries could immediately sell the asset at that market value without any capital gains tax being payable.
Those same assets can be gifted during the owner’s lifetime without any capital gains tax being payable but there is no uplift to market value. Instead the person receiving the asset is treated as having paid the same amount for it as the person making the gift so if there was an immediate sale there would be capital gains tax payable.
The OTS found that this affected decision-making around lifetime gifts and recommends that assets which benefit from IHT reliefs on death don’t benefit from the capital gains free uplift.
- The OTS found that differing requirements for inheritance tax reliefs and capital gains tax reliefs could be standardised to help decision-making. Particular issues identified were furnished holiday lets, which qualify as a trading asset for capital gains tax but not for IHT, and the stricter trading requirements for businesses to qualify for capital gains tax reliefs than for IHT reliefs.
Other issues
- Life assurance policies that are written into trust are not considered part of the estate for IHT. These proposals recommend that all life assurance policies should be IHT free whether written into trust or not.
- Currently, shares traded on the alternative investment market (AIM) benefit from business property relief from IHT and the OTS report questions whether this is consistent with the original aim when introducing business property relief, which was to prevent family businesses from being broken up to fund IHT liabilities following a death.
- Pre-Owned Asset Tax rules are complex and poorly understood. These should be reviewed to see whether they are working as intended.
- There are problems with the main residence nil rate band, however too little time has passed since its introduction to consider its effectiveness and make suggestions for simplification.
- The government should consider a separate review into pensions, including the interaction with inheritance tax.
All of the above are of course just proposals and recommendations and whether any are taken further or implemented in future remains to be seen.
The full report can be viewed here.
Please contact me if you have any queries.
