Inheritance Tax

[Annabella92]

Is it wrong to try and avoid inheritance tax? Is inheritance tax itself unfair? Has your family taken any measures to avoid it?

We saved about £80k of inheritance tax on my mums estate. The cash had been invested in some sort of combined fund that bought farm land and thereby making it exempt from inheritance tax. It’s one of the options the budget cancelled.
It was legal so I don’t have an issue with it but also I can see why it’s been removed as an option.

But the inheritance could be the same money that was earned by working at Tesco and has already been subject to tax and NI. Instead of spending it on flash holidays and nice cars, someone could choose to diligently save so that they can pass down the money to their children. They invest it wisely and build up a large amount that then the government decides is fair game. The people that frittered their money away meanwhile pay no IHT and are more likely to need state funding for their potentially very expensive care home fees.

How is that fair? Surely once the Tesco salary has been taxed and is yours then you should be able to do what you want with it. Why should you be penalised if you choose to give it to someone else in life or death?

The beneficiary isn't the one paying tax though. It is the estate. The person who died's estate is paying the tax.

I doubt if many shelf stackers in Tesco are going to hit the IHT limits. There are generous allowances open to everyone that means ordinary people will not pay much (if any). Wealth is concentrated is certainly families (including the Royal Family) and they have used generous IHT exemptions to ensure their descendants will remain rich and will never face the challenge of buying a house or renting a flat. Tax is always paid on transfers , if I get a haircut much of that will go in tax .

No one has a problem with "contrived" schemes like that being targetted. Same happened with film production tax relief where all kinds of contrived "partnerships" were created, same a few decades ago with woodland tax relief. But, the politicians should simply stop the abuses by tightening up the rules if there's perceived abuse. Or even better, draft the laws better in the first place. But what they've done with farmers is classic throwing the baby out with the bath water and it will do more harm than good.

Semantics. The beneficiary gets less money in the end, so they are "paying" the IHT, although not directly, but certainly it comes out of their "pot".

”Tricks and loopholes” are exactly how certain high-value exemptions and reliefs can or could easily be (mis)used, primarily by people with enough surplus wealth that they can afford to lock up in illiquid or somewhat riskier assets.

Some examples:

(1) farmland exemption from IHT, designed to allow family farms to get passed down the generations, get used by people with lots of financial wealth who have never farmed: they buy farmland, driving up land prices, which actually makes it harder for farmers to buy land and allows non-farmers to avoid IHT. This loophole is not available for normal middle class people trying to save for their future because farmland comes in larger chunks and is illiquid.

(2) VCTs, designed to allow investment into risky startup businesses, can actually contain lots of mature businesses paying reliable dividends. Wealthy people can buy them in order to get an immediate income tax cut and a future exemption from tax on dividends and capital gains. This may be available to normal middle class people if they are comfortable with the investment complexity.

(3) to avoid CGT altogether, a wealthy investor can borrow against their portfolio to fund current spending instead of selling assets and paying CGT. As the portfolio grows, so does the available borrowing. This works especially well for people who have way more than they need because they avoid the risk of margin calls.

(4) Pensions used to be touted as a way for people with plenty of non-pension money to sock away money for heirs tax-free in the event of an untimely death: there was an income tax break upon contribution on the way in, no income tax due on the way out, and no IHT. People who needed that pension money later in life to fund retirement would pay income tax on the way out, but people who did not need it could use this as an extra nil-rate band.

I have seen numerous promotions each all of the above approaches to saving on tax, which are of most benefit to the top 0.1%. For examples a VCT investment can offer a £60,000 income tax saving every year, plus tax free dividends and capital gains on the £200,000 investment, to a any person with enough surplus income or capital to invest that amount every year. The pension loophole allowed a wealthy individual to get an extra £1 million nil-rate band for their heirs and to fund it using pretax money.

Maxing out ISAs, thoughtful use of pension relief, and home ownership can together provide a very healthy dose of tax relief for anyone in the bottom 99% of earners in the UK and can probably allow most people to do most or all of their saving in in a tax-advantaged way. If we were to keep consistent policies on ISAs, pension allowances, and PPR on owner-occupied homes, and eliminate all of the reliefs I described above, it would really only affect the top 0.1% of taxpayers.

Many people that had relatively lowly paid jobs in London now own property that would take them over the IHT threshold. Nobody knows what the future holds if you invest your money wisely and the asset you choose to increases in value. There is also the impact of compound growth to consider too. Either way, it is totally possible for someone on a relatively low wage to exceed the IHT thresholds. The rub is of course that the beneficiaries of the estate will probably now live in London too and the money they inherit will have limited buying power there and yet they will be taxed in the same way someone in Lincolnshire would be taxed on a similar gain where they could afford a sizeable property.

If you get a haircut then you will pay VAT at 20, this is absolutely nowhere near 40%. 40% is an extremely high rate of tax to impose and is the 4th highest rate across all the OECD countries! Besides, lots of things in this country are VAT free so it simply isn't true that tax is always paid on transfer even if you want to use the analogy of buying things.

“Legal ownership” is a social fiction enabled by the state. Not every society subscribes to this social fiction. If there were no state, then a person could only ever own what they could defend either using physical force (their own or hired), or by carrying it on their person and successfully fleeing anyone stronger who wanted to take it from them.

Certain American Indians have a value frame to the effect that people do not “own” land. Land existed before they were born, and will continue to exist after they die, and people depend upon the land and in some sense belong to it. While I am not saying we should go back to that social model, we should also try to recognise that the idea of legal ownership is … an idea … and that other ideas could be just as valid or perhaps even more valid.

The presence of a state, and laws, means that if you work hard and obtain a fictional social construct called “money”, or use that in exchange for possession and legal ownership of a thing, then another random person you meet on the street is not able to just take it away. The state, however, is able to claim a portion of the value or thing as a part of the same social construct that allows it to continue existing and permitting legal ownership to supersede physical force as a basis for possession. If we do not like the share the state is taking, or the way in which the state is taking it, then in a democracy, we can vote in politicians who will take less or in a different way. However, if we vote for the state to provide ever more public services while taking ever lower taxes, we can end up with higher interest rates, runaway inflation, and the destruction of money as a store of value. We got a very small whiff of that after the inflation spike that was provoked by the combination of COVID and Brexit.

So the idea that we have some sort of natural or moral claim to keep 100% of what we own is, again, an idea. A fiction. A story we tell ourselves, and that keeps working only so long as enough of us believe it and allow the state to enforce it.

I personally quite like being able to have legal ownership of things and investments, and having that be accepted in the society in which I live. And I accept that the taxes I pay are part of what is required for that to continue. Including IHT. Even though I am personally rather likely to be among those whose estates are affected by it.

@YankeeDad the government’s own consultation paper on IHT and pension funds has highlighted increases in IHT for 5% of estates from the new treatment. Where you get 0.1% from I’ve no idea.

And pension funds are currently subject to IHT when someone dies over age 75, which is most people.

@Pleasebeafleabite you are right that many more than 0.1% of estates pay IHT.

My reference to the 0.1% of top earners describes the primary beneficiaries of certain reliefs and exemptions, such as VCTs, borrowing against invested assets instead of selling them down and and paying CGT, and IHT relief on farmland holdings above £1 million for landowners who do not farm. Those very high earners, with taxable income of £650k and up, are in the best position to put £200k / year into VCTs, buy farmland, or have a big enough portfolio with a sophisticated bank that will let them fund current expenses by borrowing instead of selling down assets. Those 0.1% can lower their IHT in ways that most of the top 5-10% simply cannot.

For your point about pensions, you are also right that the IHT change will only affect people who die under 75. However my point remains that for people who are in their 40s, 50s or 60s, contributing to a pension was a way to get extra-special tax relief on their overall wealth by accumulating a pot of money that was neither subject to income tax+ NI, nor subject to IHT, if they were to die before 75. It was too good to be fair. I certainly used it myself, and I think it’s entirely fair that having already enjoyed the income tax relief, my accumulated pension will no longer also be exempt from IHT.

Going forward, very wealthy people who have been using undrawn pensions as a way to have an extra up to £1million nil-rate band may instead be incentivised to take that money out and either spend it or gift it to their heirs while hoping to live another 7 years after gifting. In either case, the government will at least receive income tax on those earnings that could otherwise have gone completely untaxed.

If you are making a comparison with IHT, the government wouldn't take 40% of an inheritance of £100, so it shouldn't be able to take 40% of a gift of £100.

So your suggestion is to tax any motivation to earn into oblivion so we all die poor?

In 2023/24 IHT raised £7.1bn out of a total £1095bn (0.65% of the total)

Some other taxes raised:
Income Tax - £277bn
NI - £180bn
VAT - £170bn
Corporation Tax - £103bn
Council Tax - £45bn
Business Rates - £27bn
Fuel Duty - £25bn
Alcohol & Tobacco - £21bn

The small amount raised by IHT could be raised by relatively small increases in other taxes and IHT could be abolished - you would not be "taxed into oblivion". The other benefit to the government would be that the revenue comes this year - they don't have to wait for people to die to receive it.

I was surprised that in the budget there was:
a) no increase to employees NI above £50270 - remains at 2%. If you want a progressive tax system this is the one to target.
b) No clampdown on the NI loophole for partners in LLCs (law firms, big accountancy firms who currently pay no NI)
c) No removal of the 5p/litre cut on fuel duty (introduced when petrol was approaching 190p/litre - it is now below 135p/litre. This would immediately raise £3bn/year)

Apologies. All good suggestions.

I had to pay it when my uncle died. I just think it should be a level playing field - either everyone, eligible, pays it, or no one does. At the moment, it’s not. ☹️

Who you leave your estate to makes no difference. Inheritance tax is paid on the value of the entire estate by the executor from the estate before any distribution is made.

The person may not be but the “thing” is - for example the wages to pay for a house are taxed, then you pay stamp duty and then when you die the property is gifted and there is IHT to pay on that property. In effect you are being taxed multiple times for the same object.

It does make a difference with allowances, dependant on marriage, kids etc.

That simply isn’t true. Property inflation accounts for most inherited money. Our house is now apparently “worth” nearly five times what we paid for it. That’s hundreds of thousands of £ that’s never been taxed because it only exists on paper. When the house is sold after we’re dead IHT will be the first time it’s taxed.

However increasing IHT will not mean that those who don't inherit and can't afford to buy a house will then be able to. It just means even fewer people will be able to afford to buy a house.
I suppose that might lead to a crash in house prices but then that would lead to lots of people being in negative equity and unable to move which affects jobs etc.

You aren't. Your descendants are. On money they haven't earned. If you have a house, likely you didn't earn most of the value either, so that has never been taxed.

Be careful to account for general inflation when you calculate how much money you have gained on your house. £1 in 1980 is the equivalent to £4.20 today. House prices have certainly outstripped inflation but often not as much as people believe.

It doesn’t matter how much money it is now or might have been in 1980. The point is it’s never been taxed.

Your descendants are technically taxed but the tax is calculated on the value of the deceased person's estate so it's complicated. For example, if a rich person decides to bequeath lots of different people relatively small amounts of money then IHT would be applied, but if someone just below the threshold with all the allowances wanted to bequeath one person just under £1 million then that could pass without being taxed.

Lots of people have money that they have earned or gained through investments. They could well have already paid income tax, CGT etc on their earnings and then are essentially being taxed again at a ridiculously high level (40% is the fourth highest level of IHT out of all the OECD countries) because they didn't just fritter it away on themselves.