There is growing speculation that Prime Minister Rishi Sunak will slash inheritance tax to win votes ahead of the upcoming election.
Under current rules inheritance tax is charged at 40% on estates worth more than £325,000, with an additional £175,000 allowance for a main residence if passed on to children or grandchildren. The total amount a married couple can pass tax-free is £1million.
Originally intended as a wealth tax, a sharp rise in property prices, particularly in the south east, coupled with frozen tax thresholds, has seen a growing number of people being drawn into the IHT net. Furthermore, demographic trends are set to further boost the government’s IHT intake going forward as the asset-rich “baby boomer” generation pass their estates on.
Rachael Griffin, tax and financial planning expert, said: “ A promise of the reducing or even eliminating one of the most hated taxes in Britain and one many perceive as inherently unfair will be music to many voters’ ears. While most Britons do not suffer IHT, there are many more middle-income earners, particularly in the south east of England, being caught by it due to property price growth and inheritance tax thresholds which remain frozen until 2027/28.”
However, Griffin said there will likely be a “sting in the tail”, amid a challenging economic environment. As the government seeks to strike a balance between public approval and fiscal responsibility, the loss of inheritance tax will leave a gaping hole in the government’s finances, with IHT set to reach a record £8 billion this year.
Griffin said: “Those calling for IHT to be completely scrapped may need to be careful what they wish for as it opens the door to new kinds of wealth taxes under a future government.
“The Tory’s inherent challenge here is to strike a balance between appeasing the sentiment of enough voters while not over promising IHT reform can be seen as an aspirational offer to voters, but it’s also very easy to frame IHT reform as a giveaway to the wealthy, meaning it represents something of a political gamble.”
There are a number of options the government could consider, said Griffin, including a sliding scale of IHT depending on the estate, raising the nil rate band to £500,000 or lowering the headline 40% tax.
“A 20% rate alongside the removal of many of the available exemptions available would be sensible and help to simplify IHT. The government should also review and increase gifting allowances to bring them in line with the cost of living in 2023,” added Griffin.
Ian Dyall, head of estate planning at Evelyn Partners, said that while a cut to the “punitive” 40% rate would appease some, it would not prevent the growing swathes of families being dragged into the IHT net as a result of rising property prices. Instead, the government should focus on increasing the nil rate band, said Dyall.
Dyall explained: “This exempt allowance below which no IHT is paid has been frozen at £325,000 per person since April 2009 and would now be close to £500,000 had it risen with inflation.
“Moreover, the extra £175,000 residential property nil rate band, also frozen since 2020/21, only comes into play if the family home is left to children or grandchildren. Where that isn’t the case, with the Halifax estimating the current average UK property is valued at nearly £280,000 it is easy to see that the main nil rate band will be quickly eaten up.”
However, Dyall warned that ongoing speculation around the abolition of IHT could encourage a false sense of security among people.
“A cut to the IHT rate would indeed alter some of the equations in estate planning but any notional abolition of the tax would be a long way down a very uncertain political road. In any case, there are a lot of other important issues to be addressed in deciding how to pass on one’s wealth apart from a possible IHT liability, so those who want to see their assets distributed in the best possible way after their death should write a legally-binding will and continue to structure their finances appropriately, according to the rules as they stand.”
