Inheritance Tax – complex, old-fashioned and unfit for purpose?
In autumn 2018, the Office of Tax Simplification (OTS) published a report following a request from then Chancellor Philip Hammond for a comprehensive review of the IHT system. One of two reports, the first dealt with the administrative side of IHT, while their second report, presented to Parliament in July 2019, concentrated on simplifying the design of the tax itself.
“Complex and old fashioned”
The OTS found that the process of filling in Inheritance Tax forms was long and onerous, and many more people were forced to fill in the paperwork than those actually affected by IHT. Just 5% of estates are liable to IHT each year, and yet half of the families of those who die have to fill in these forms.
The first report therefore recommended that the requirement to submit forms (1) be reduced or removed for smaller estates, and advocated for the automisation of the system by bringing it online.
Lack of understanding
The consultation process revealed that many people had a very limited understanding of how IHT works. It led the OTS to make a series of recommendations to simplify the design of the tax in the following areas:
• Lifetime gifts – the many exemptions to the rules on lifetime gifting and various monetary thresholds are “complex and create confusion”, the OTS reported. The current seven-year period was deemed too long, creating problems with record-keeping; the report therefore recommended that this be reduced to five years. Other recommendations included introducing a simpler personal gifts allowance and abolishing taper relief.
• Interaction with Capital Gains Tax – the complex way in which IHT and Capital Gains Tax (CGT) rules intersect can “distort and complicate the decision-making process around passing on assets to the next generation”, the OTS concluded, and recommended amending the CGT rules.
• IHT relief on businesses and farms – the intention of these reliefs is to avoid the break-up or sale of businesses and farms to finance IHT payments following the owner’s death. However, the OTS found that the trading threshold for IHT (50%) was inconsistent with the threshold for CGT (80%). It recommended standardising the thresholds across both taxes as well as a further package of reforms to iron out other issues and inconsistencies.
• Other recommendations – further issues were raised regarding the IHT treatment of term life insurance policies, pre-owned asset tax and the recently introduced Residence Nil-Rate Band (RNRB).
RNRB – yet another complex relief?
The RNRB was introduced in the 2015 Summer Budget, and provides an additional Nil-Rate Band for those leaving their main residence to direct descendants. Introduced over a four-year period, the full RNRB threshold of £175,000 will be available to eligible individuals in April 2020. However, the RNRB was the source of the majority of the correspondence received by the OTS during its consultation period, with many respondents complaining about its complexity. One of the most complicated aspects was considered to be the rules governing downsizing, which were added to ensure that people weren’t discouraged from moving to a smaller property or into residential care in later life. The rules were said to be so complicated that people risked missing out on this relief due to a lack of understanding.
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