Adam Memon is Head of Economic Research at the Centre for Policy Studies and author of “How to cut Inheritance Tax”.
There is a reason why inheritance tax is regarded as the most unfair major tax by people from across the political spectrum.
Too many people work hard and save for their children and grandchildren only then to face the prospect of yet another tax at the end of their lives. They do the right thing and then are punished for it with inheritance tax.
These families cannot simply be dismissed as being of the super-rich. With the threshold frozen at £325,000 and rising asset prices means that by 2020, 11.6 per cent of all deaths will be subject to the tax with revenues rising to £6.4 billion.
Furthermore, the UK faces one of the highest effective inheritance tax rates of any country in the developed world. Only France beats us in the G7 on that front.
The unfairness of the tax is compounded by the complexity of the system. Of those estates which are worth more than £1 million, approximately 40 per cent pay no inheritance tax at all.
It is not surprising when considering the fact that there are 91 tax reliefs which open up a vast array of discounts and exemptions. Everything from wedding gifts to the timber in woodlands to historic pieces of art is covered by different reliefs.
Although be warned, wedding gifts from your grandparents are only exempt for values up to £2,500, the timber may become liable for the tax when it is sold and the heritage art is only covered by an exemption if it is open to public viewings. Inheritance Tax is complicated, unfair, and at times inexplicably arbitrary.
Yet given how much it is expected to generate for the Treasury, it seems infeasible given the current fiscal situation simply to abolish it without offsetting measures.
The Conservative Party pledged in its manifesto to introduce a new £175,000 transferable allowance for residential property given to children or grandchildren. There is no doubt that this will reduce the burden on many households and so it is a step in the right direction.
Nevertheless, a better way to reform and cut inheritance tax would be to overhaul and simplify the tax relief system and cut the main rate. Broadening the base of inheritance tax by eliminating unnecessary reliefs and reducing the rate would shift the burden of inheritance tax away from middle class households towards the very wealthiest.
This maze of reliefs opens up the opportunity for substantial tax avoidance. This largely benefits the very wealthiest who have the resources both in time and money to exploit the complexity of the inheritance system to reduce their tax bills.
In particular, the Government should look at eliminating Agricultural Property Relief and Business Property Relie,f which have become the tools of tax planning advisers. The National Audit Office estimates that the cost of these reliefs have grown by 206 per cent and 160 per cent respectively in real terms between 2000 and 2013.
This compares to just 10 per cent for the overall inheritance tax revenue.
The justification for these reliefs is that they provide business continuity, but as the Mirrlees Review pointed out, there is not much evidence that they actually boost the economy. Even if those inheriting the asset decide to sell up straight away, the exemptions still apply. Moreover, it is the landowners rather than simply working farmers who receive the gains.
Eliminating them could save more than £1 billion a year from 2016/17 and this could be combined with the planned £1 billion reduction in pension tax relief for the highest earners.
The Government could then use this to fund a sharp cut in the standard inheritance tax rate from 40 per cent to 20 per cent. An extended repayment period as well as the much lower rate would ease most of the problems which may arise from the broader base.
Alongside this, the Government should ask the Office of Tax Simplification to conduct a full review of all the remaining inheritance tax reliefs, to suggest for abolition those which merely add complexity and avoidance opportunities. Some reliefs such as for spouses are obviously desirable but many others can be swept away.
Such a simplification of inheritance tax could also deliver significant administrative savings for HMRC and reduce the incentive to engage in unproductive tax planning activities.
Inheritance tax is ripe for reform, and the Government should embark on a radical simplification of the current system by broadening the base and reducing the rate. It would be efficient, socially just and fiscally neutral.