Inheritance tax rules could be due a shake-up in the upcoming Autumn Budget, after Chancellor Philip Hammond signalled tax hikes will be needed to fund government spending.
In recent comments to the BBC, the Chancellor indicated tax increases could be on the cards, warning: ‘we will have to find a little more, each of us, to… expand our NHS to meet the needs of an aging population.’ However, he added: ‘I will always do everything I can to minimise the necessity for any increases in taxation, and to keep the burden of taxes as low as I possibly can.’
Inheritance tax is one area that could see changes. Though the tax is only paid by 5% of estates, the amount it collects is rising sharply, passing £5bn for the first time in 2017-18, and the rules governing it are complicated.
While it’s impossible to know in advance what the Budget on 29 October will bring, Which? explores some possible outcomes for inheritance tax.
How could inheritance tax change?
Earlier this year, the Office for Tax Simplification (OTS) was tasked with reviewing the inheritance tax system, to see how it could be made fairer and less complex. The OTS is scheduled to report back this autumn, and it is possible that this report will coincide with the Budget.
If it does, here are some of the changes that the Chancellor might plan to introduce.
1. Simplified gifting rules
Currently, the rules saying how much you can give away before you need to pay inheritance tax are relatively complicated.
You’re allowed to give away up to £3,000 each year as a ‘main gift’, and you have the option to carry it over once if you didn’t use it in the last tax year.
An unlimited number of smaller gifts can also be made, worth up to £250 each to anyone who didn’t receive part of the main gift, and wedding gift exemptions ranging from £1,000 to £5,000, depending on who you give them to.
There are further allowances for people giving away income they don’t need, and people are free to give away larger amounts, though those gifts may be subject to inheritance tax, if the person gifting the money doesn’t live for seven years afterwards.
The £3,000 gifting allowance hasn’t increased since its introduction in 1986, and one way of making inheritance taxes simpler, and fairer, would be to replace all of these allowances with a single £10,000 annual gifting allowance, according to Sean McCann of NFU Mutual.
He says, ‘personal finances have moved on a great deal in the last 32 years and it’s about time the limits and exemptions matched the needs of 21st century families.
‘It’s true that you can’t add simplicity, you can only remove complexity, so a sensible approach would be to replace all the existing exemptions with one single annual exemption of at least £10,000 which would increase in line with inflation.’
- Find out more: inheritance tax planning and tax-free gifts
2. IHT on pensions
Another way for the Chancellor to raise funds would be to start charging IHT on inherited pensions.
At the moment, money left in defined benefit contribution pensions isn’t subject to IHT, but the recipient may need to pay income tax, if the person passed away after turning 75.
This rule has been estimated to increase the amount that some people can pass on tax-free by more than £1m, and could encourage people to spend other savings and assets in retirement first.
The Institute for Fiscal Studies has called the system ‘indefensibly generous’ and says this is one area where the IHT rules could be made more equitable.
- Find out more: inheritance tax thresholds and rates
3. CGT charged on estates
The IFS has also suggested changing rules on capital gains tax (CGT) in relation to inheritances.
Currently, when someone passes away, CGT isn’t charged on the assets they held during their lifetime, but their total estate is subject to inheritance tax.
According to the IFS, this encourages people to hoard assets until they pass away to avoid paying between 10% and 28% CGT, depending on the assets held and their other income.
If that changes, estates could face two waves of tax on long-held assets, in the form of both CGT and inheritance tax.
- Find out more: capital gains tax allowances and rates
4. IHT allowances for co-owners
When someone who is married or in a civil partnership passes away, their estate passes tax-free to their spouse, and inheritance tax is charged when the second person dies.
This doesn’t extend to other people who co-habit, for example, siblings who live together. If non-married people own a house together, the surviving person can potentially face large inheritance tax bills to stay in their own home.
The House of Lords is sympathetic to this issue, and has proposed extending this allowance, as well as the new property IHT allowances, to co-habiting siblings, though to date the change has been resisted in the House of Commons.
- Find out more: inheritance tax on property
5. Probate fee hike
In a related area to inheritance tax, plans to push probate fees to thousands of pounds for the wealthiest estates could return, after they were shelved while the government focused on Brexit negotiations.
Currently, most executors pay a flat £215 fee to make a probate application, with slightly lower charges for those made through a solicitor.
If the government returns to the new structure, originally proposed in 2016, then probate fees would be levied on a sliding scale, depending on the size of the estate.
Estates worth less than £50,000 would be charged nothing, while those worth more than £2m would pay £20,000 – a £19,785 increase.
Potential probate fees, as planned in 2016
|Value of estate||Proposed probate fee||Current probate fee||Change|
|Below £50,000||£0||£215||£215 less|
|£50,001 – £300,000||£300||£215||£85 more|
|£300,001 – £500,000||£1,000||£215||£785 more|
|£500,001 – £1,000,000||£4,000||£215||£3,785 more|
|£1,000,001 – £1,600,000||£8,000||£215||£7,785 more|
|£1,600,001 – £2,000,000||£12,000||£215||£11,785 more|
|Above £2 million||£20,000||£215||£19,785 more|
- Find out more: grant of probate – how to make an application