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Inheritance Tax – the proposed simplifications, explained

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The Office for Tax Simplification (OTS) recently made numerous recommendations for the Government to consider simplifying various taxes. Unfortunately, the OTS can only make recommendations – it does not have the power to make the changes recommended. This is a matter for the government and parliament.

It is reported that the consultation process generated a higher than expected level of interest, which just highlights how complex Inheritance Tax is and how little people understand it.

Most people are aware that Inheritance Tax applies on death; however, few people are aware that it can also apply to gifts made within 7 years prior to death. It can also apply to lifetime gifts at the time they are made, regardless of whether the person giving the gift survives another 7 years.

Most people worry about Inheritance Tax even though it is only charged against a small minority of estates. The amount of estates paying the tax, however, has been increasing gradually over the last few years. Any of the OTS recommendations, if implemented, could have a major impact in making Inheritance Tax simpler for people to understand, comply with and plan for.

The report contains recommendations focused around the taxation of lifetime gifts, including dealing with who pays the tax when such lifetime gifts are taxable, simplifying exemptions for lifetime gifts, and also around reviewing business exemptions.

Many had feared that Agricultural Property Relief would be under threat; however, so far, the OTS have had very little say about this form of tax relief.

Proposed changes to taxation of Lifetime gifts

There are several exemptions from Inheritance Tax relating to lifetime gifts, which haven’t changed for over 30 years. These include exemptions for:

the first £3,000 given away each year
for individual gifts of up to £250
gifts to someone getting married or entering a civil partnership
regular gifts out of a person’s excess income

OTS has recommended replacing the various lifetime gift exemptions with a single personal gift allowance, to be set at a reasonable level, and incorporating an increased lower threshold for small gifts. The exemption for regular gifts should be reformed or replaced with a higher personal gift allowance.

Further recommended by the OTS is that the 7-year period should be shortened to 5 years. which would be good news, especially for executors. However, the taper relief on those gifts would be abolished – which would be bad news for those who die within 3-5 years of making the gift in comparison to how the estate would be taxed under the current rules. It would also abolish the tapered rate of Inheritance Tax, which many find works in a counter-intuitive way.

Proposed changes to who pays the tax where lifetime gifts are taxable

Where there is Inheritance Tax to pay on lifetime gifts, the OTS recommends the government explores options for simplifying and clarifying the rules on who is liable to pay this tax, and how the £325,000 threshold is allocated between different recipients. It is recommended that the burden of IHT on lifetime gifts be moved from the recipient to the estate of the person who makes the gift.

Proposed changes to Capital Gains tax and relief for businesses and farms

The rules relating to Inheritance Tax and Capital Gains Tax, and how the two interact, can be particularly confusing for many; the same is true for rules relating to the reliefs available for businesses and agricultural property. These reliefs, in particular, have a big impact on how families handle passing their business to the next generation. The report makes recommendations to address and reduce complexity in these areas and asks the government to consider whether the reliefs are targeted most effectively at the policy objectives.

Other proposed changes

Other recommendations by the OTS include:

That life assurance policies are Inheritance Tax free on death, whether or not they are written into trust.
That the government reviews whether legislation for the Pre-owned asset charge is still necessary.
That consideration should be given to spouse exemption being extended to cohabitees.
That the residence nil rate band is complex – the report suggests some alternatives, including abolishing this additional relief. However, this may be premature to suggest, as the allowance is only in its third year and so its effectiveness cannot yet be accurately evaluated – which is critical for an effective review and worthwhile recommendations for review to be made.

Contact the experts in Inheritance Tax

If you have further queries about the proposed changes to Inheritance Tax, or if you require legal assistance in ensuring that your estate is not taxed unfairly, please do not hesitate to contact a member of our Wills and Probate team. Call us now to instruct one of our experienced and specialist lawyers to represent you, advise, guide and support you.