There are two things certain in life: death and taxes. This oft-quoted idiom actually derives from a letter written by Benjamin Franklin in 1789 but would not feel out of place in a tweet in 2021. And, as we know, when it comes to Inheritance tax (IHT); death leads to taxes.
It is no surprise then that the very nature of IHT is unpopular; however its reputation only seems to have gotten worse since its introduction in 1986, often being criticised as complicated, unfair and in need of modernisation.
It has become an annual trend to speculate as to the future of IHT and indeed Capital Gains Tax (CGT) as “Tax Day” approaches. However, for the past few years at least, the speculation has been followed with an anti-climax for some and a sigh of relief for others as IHT and CGT are overlooked for any significant change or reform.
This year was no exception with it reported that IHT thresholds and CGT allowances are to be frozen at 2020-2021 levels until 2025-26.
What is IHT?
IHT is tax payable on an individual’s estate on death, being the total of all the assets of the estate minus any liabilities. The estate value may be reduced if any exemptions or reliefs apply to certain assets or the estate as a whole.
IHT is usually payable at a rate of 40% where the value of the estate exceeds £325,000, otherwise known as the Nil-Rate Band. Any unused threshold from the estate of the first to die may also be transferred for use in the estate of the surviving spouse, increasing the threshold to a maximum of £650,000.
There is also an allowance of £175,000, known as the Residence Nil-Rate Band, which applies where an individual’s main residence is left to lineal descendants.
What is CGT?
CGT is sometimes payable where you sell or give away (‘dispose of’) certain items that have increased in value.
Tax is paid on the gain that you make. So, for instance, if you acquired an antique that was £20,000 in value and you later sold it for £30,000, you may be liable to pay tax on the gain of £10,000.
Even if you dispose of an item that attracts CGT, you will only have to pay tax where your overall gains for the tax year exceed the Annual Exempt Amount, being £12,300 (or £6,150 for trusts).
When someone dies and you inherit an asset, it is not a disposal for the purposes of CGT. CGT will only be potentially payable if you later dispose of the asset at an increased value.
More information is available on the government website.
What has happened in the lead up to the March 2021 Budget?
In recent years, both the Office of Tax Simplification (OTS) and All Party Parliamentary Group (APPG) have undertaken independent reviews of the current IHT regime, its effects and the criticism surrounding it. Each has published proposals aiming to simplify the design of IHT for the government to consider.
In addition, as requested by the Chancellor in July 2020, the OTS later published its first report dedicated purely to CGT. The long and short of the review is that, in a number of areas, the way CGT operates is ‘counter-intuitive and creates odd incentives’. The OTS focus on four main areas:
- Aligning CGT rates more closely with income tax rates to discourage taxpayers from arranging their affairs in ways that re-characterise income as capital gains
- Examining the policy considerations behind the Annual Exempt Amount and whether there is merit in reducing the threshold
- Considering the interaction between CGT with lifetime gifting and IHT, particularly whether the capital gains uplift on death should be removed
- Examining the policy considerations behind CGT business reliefs and the extent to which they should stimulate business investment and risk-taking
The review published 11 November 2020 is one of two reports focusing on CGT. A further report exploring key technical and administrative issues is expected this year.
The Budget: were any changes made?
IHT thresholds will be frozen until April 2026, meaning that the IHT Nil-Rate Band and Residence Nil- Rate Band will be frozen at £325,000 and £175,000 respectively, and tapering of the Residence Nil- Rate Band will continue to start at £2 million.
The Chancellor also announced that from 1 January 2022:
- over 90 per cent of non-taxpaying estates each year will no longer have to complete IHT forms in order to obtain probate; and
- in cases where an IHT return is still required, the government has made permanent the ability for those dealing with an estate to provide an IHT return without requiring physical signatures from all others involved.
Although full details are yet to be announced, it is estimated that 200,000 estates will be saved the requirement to complete an IHT return where the estate does not attract any tax liability. This will most likely apply to simple estates, such as those which fall below the Nil-Rate Band or where the estate passes absolutely to the surviving spouse or civil partner.
Both announcements, which were recommended in the OTS’ first report in 2018, are undoubtedly welcomed for easing the administrative burdens of IHT reporting. However, many suggest that these red tape reforms do not go far enough and are disappointed by the apparent failure to address the more substantial criticisms surrounding the unfairness and complexity of current IHT rules.
For others, the news that the Chancellor has followed suit of his predecessors in freezing IHT thresholds for a further 5 years is met with relief. The existing exemptions and reliefs will continue to be available, as well as the rate staying at 40%, providing some certainty for IHT planning and mitigation.
It should however be noted that, given inflation and as house prices increase, the freeze is likely to result in more of the population needing to pay IHT.
The government has confirmed that it will continue to work on the remaining proposals in the OTS’ first report , while a response to the OTS’ second report from 2019 will follow “in due course”, indicating that a radical overhaul of the IHT regime is coming and is a case of ‘watch this space’.
Like IHT, the CGT Annual Exempt Amount will remain at £12,300 for individuals and £6,150 for trusts.
In terms of the OTS’ review of the current CGT regime, it will be up to government and parliament to decide whether any recommendations are adopted. We can expect a response and, potentially, reform in the area of CGT within the next few years.
A missed opportunity?
With the UK’s road to recovery a priority as a result of the pandemic, it was highly suspected that the government would take the opportunity to increase revenue through IHT and CGT, and with it some of the changes recommended by OTS and APPG. It may therefore have come as a surprise –a pleasant one for some – that the allowances are to stay the same.
Despite a clear drive to recoup funds spent on the pandemic, the government mainly left the areas of IHT and CGT alone, but why?
It is often overlooked that IHT and CGT account or very little of the national income. The Office for Budget Responsibility (OBR) in their latest forecast reported that in 2015-16 a total of 24,500 estates were liable to pay IHT which translated to 4.2% of total UK deaths. On this basis they expected IHT to raise £5.3 billion in 2019-20, equivalent of 0.2% of the national income. In terms of CGT, the OBR published in January 2021 that £9.8 billion was raised in 2019-20, equivalent to 0.4% of national income.
Minds cast back to March 2020 and Rishi Sunak’s promise to do “whatever it takes to support the economy” which landed him the nickname, among others, of “Britain's economic Jedi”. Despite this it appears that, at least at this point in time, increasing IHT and/or CGT is simply not worth it when balancing the possible political consequences against what in the scheme of things may result in a small economic victory.
The general feeling is that this is no bad thing, especially in a time where both the economy and probate process is struggling. Losing a loved one is always difficult and the delays in obtaining probate during COVID-19 have only exuberated things. There is an argument that a change in IHT and/or CGT would have been one step too far for all parties involved, but especially for bereaved families.
It does however serve as a reminder that current tax planning strategies will not last forever. The announcement has in effect created a window of opportunity for individuals to act now in order to guarantee they have the right planning in place should an overhaul take place in the future.
Those who wish to discuss their IHT position and the options available to them on how to manage and pass on wealth in the most tax efficient manner should speak to a specialist advisor. For more information on Boyes Turner’s estate planning services please get in touch with our expert Wills, Trusts and Probate team.
Consistent with our policy when giving comment and advice on a non-specific basis, we cannot assume legal responsibility for the accuracy of any particular statement. In the case of specific problems we recommend that professional advice be sought.