How to stop Labour taking your inheritance: JEFF PRESTRIDGE reveals the steps to take NOW
A combination of rising house prices and frozen tax-free allowances means the amount of inheritance tax (IHT) payable on estates when people die is ratcheting up.
Yet to quote the Bachman-Turner Overdrive hit, ‘You ain’t seen nothing yet’ – the tax take could jump through the proverbial roof if Labour carries out its expected tax assault on inherited wealth in next month’s Budget.
Rather than a tax that merely nibbles at the ‘heels of families with modest estates’ – a comment made to Money Mail by Paul Barham of tax advisers Forvis Mazars – it could start taking Bite-size chunks.
Death duties: Currently, the value of someone’s estate when they die is potentially liable to 40% IHT if it exceeds £325,000
Anything is possible: the removal or limiting of reliefs that reduce the size of an estate for IHT; raising the tax rate or reducing the tax-free allowances; and restricting the gifts that can be made while alive to take money out of the IHT net. The value of a pension when someone dies could also become liable for IHT.
Yesterday, the Left-leaning Resolution Foundation gave us the strongest indication so far that IHT taxes are to rise. Of the £20 billion of tax hikes that it urges Labour to introduce, inheritance tax is much to the fore. It says the IHT system ‘leaves much to be desired’. Code for sweeping increases.
Of course, what exactly Labour does with IHT will be revealed on October 30, but people can mitigate some of the pain between now and then by making use of various gift allowances.
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Where we stand & what may happen
Currently, the value of someone’s estate when they die is potentially liable to 40 per cent IHT if it exceeds £325,000.
There is also an additional nil-rate band of £175,000 for those who leave their home to a child or grandchild – the full amount available for estates below £2 million.
According to Adam Smith, former chief of staff to ex-chancellor Jeremy Hunt, an increase in the IHT tax rate to 45 per cent would raise £1 billion extra a year. The same revenue boost would result if the £325,000 nil-rate band was cut to £275,000.
To put these figures into perspective, total IHT receipts for the first four months of the current tax year were £2.8 billion, indicating that the take this year will be between £8 and £9 billion.
Experts believe that Chancellor Rachel Reeves could reduce the main nil-rate band, but it is unlikely.
This is because the £325,000 band has not changed for 15 years and is set to stay at this level until 2028 under plans laid down by Mr Hunt.
This deep-freezing of the threshold means inflation has eaten away at the protection it offers, doing the Government’s job for it by ensnaring more estates in IHT.
Jason Hollands, a tax expert at wealth manager Evelyn Partners, says if this tax-free band had increased in line with inflation, it would now stand at around £500,000.
But he thinks Ms Reeves could collapse the additional £175,000 ‘residence’ nil-rate band into the main £325,000 band, in the process trimming the combined total – say, from £500,000 to £400,000.
Cash grab: An increase in the IHT tax rate to 45% would raise £1 billion extra a year. The same revenue boost would result if the £325,000 nil-rate band was cut to £275,000
Mr Hollands also believes the Chancellor could tier the tax rate, ratcheting it up on high-value estates.
Sarah Coles, head of personal finance at wealth manager Hargreaves Lansdown, says Ms Reeves could also stop the exemption that permits a spouse (in a marriage or civil partnership) to leave everything to their partner free from IHT. The effect of this is to potentially double up the main and residence nil-rate bands to £1 million.
‘Any change will be unsettling,’ says Ms Coles, ‘but Labour will argue that IHT is only paid on 4 per cent of estates and there is scope to broaden the net.’
There are other IHT nasties that Ms Reeves could spring on us. For example, she could bring pensions into the IHT net.
Currently, if you die before age 75 with a defined contribution pension plan, it is not considered part of your estate.
This means beneficiaries can receive the proceeds free of IHT. The Resolution Foundation says it ‘makes no sense’ to exempt pension pots from IHT, enabling them to be used as ‘vehicles for bequests’.
Labour is also likely to reform or end the reliefs that allow families and farmers to pass on their businesses through the generations without being hit with big IHT bills along the way.
Although the Resolution Foundation says the economic case for keeping Business Relief and Agricultural Relief is ‘not strong,’ others beg to differ.
Neil Davy, chief executive of trade association Family Business UK, told Money Mail that around 85,000 family firms are passed on to the next generation every year.
Removing Business Relief, he said, would force some of these to close at the ‘expense of livelihoods’. He added: ‘Changing or removing the relief runs counter to fairness and common sense.’
On Agricultural Relief, Sean McCann, chartered financial planner at insurer NFU Mutual, said its removal would be ‘devastating for the UK’s traditional family farms’.
It would result, he warned, in land and buildings being sold on the farmer’s death to pay the IHT bill, with the next generation ‘inheriting smaller, less efficient farms’.
Cuts: Labour is likely to reform or end the reliefs that allow families and farmers to pass on their businesses through the generations without being hit with big IHT bills along the way
Mitigating the death tax damage
Absent from the Resolution Foundation’s thoughts on IHT was reform of the rules governing the gifting of money by either grandparents or parents during their lifetime.
These rules currently permit numerous gifts to be made which reduce the value of the donor’s wealth that is ultimately used to assess whether IHT is payable when they die.
Back in 2019, the now defunct Office of Tax Simplification published proposals for an overhaul of the gifting rules. It said the patchwork of allowances should be replaced with a single exemption. But they were not acted upon.
Nicholas Nesbitt, a partner at Forvis Mazars, believes Labour could well ‘tighten up the rules on gifting money away, perhaps by taxing gifts over a certain size or introducing a lifetime limit on the amount of gifts that individuals can make’.
With the Budget around the corner, he says his firm is discussing with clients who want to make gifts what the best time to make them is – or, in other words, sooner rather than later.
Any changes to gifting rules announced in the Budget are unlikely to kick in until the start of the new tax year.
But if IHT could be a potential issue in the future, it makes sense to use the various allowances promptly.
Research released yesterday by investment manager Rathbones among ‘high net worth individuals’ showed that 29 pc have already made financial gifts to loved ones – with some planning to continue making such gifts.
Olly Cheng, Rathbones’ financial planning director, said making plans to pass on wealth was an ‘essential part of responsible financial and personal management’.
Evelyn’s Mr Hollands agrees: He says: ‘For those who are comfortable that they have sufficient assets to enjoy their retirement – and don’t loathe their families – making gifts to support their children or grandchildren will be a far more palatable option than leaving money to the Chancellor.’
Currently, you can make a cash gift to a loved one free of IHT, provided you then live for another seven years – the Chancellor could shrink this seven-year window in the Budget.
IHT-free gifts of shares and property can also be made but Mr Hollands says givers could be liable to capital gains tax (CGT) – such gifts are treated for CGT purposes as if the giver had sold the asset.
You can also use the ‘annual gift’ exemption of up to £3,000 to give money to one or several people (for example, children and grandchildren).
If you didn’t use last year’s allowance, you could also utilise this. So, in effect, a couple could potentially pass on £12,000 of gifts – and, in so doing, take it out of IHT target range.
Other permitted gifts that take money out of IHT territory include ‘small’ gifts of up to £250 (per recipient), wedding or civil ceremony gifts (£5,000 to a child, £2,500 to a grandchild or great-grandchild and £1,000 to anyone else).
Regular gifts can also be made, but they must not compromise your lifestyle.
These are often made by grandparents, but professional advice should be sought. IHT rules can easily catch out people, landing beneficiaries with an unexpected tax bill.
