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Abolishing inheritance tax would give the richest 1 per cent of UK estates an average tax cut of £1mn, says a leading think-tank.
Prime Minister Rishi Sunak is exploring extensive reforms to the inheritance tax system, including reducing the headline rate of 40 per cent and completely scrapping the levy.
Ministers are considering these proposals as the Conservative party aims to attract voters and strengthen its position before the next general election, expected next year.
However, Chancellor Jeremy Hunt is not expected to make a final decision on the policy until 2024.
The Institute for Fiscal Studies (IFS) stated in a report that eliminating the inheritance tax would cost the Treasury approximately £7bn annually and disproportionately benefit wealthier households.
“There are valid arguments for and against an inheritance tax. However, as inheritances increase in size, it becomes increasingly important to address problems in the current system,” said David Sturrock, IFS senior research economist.
The report revealed that 47 per cent of the tax cut from abolishing inheritance tax would go to estates worth £2.1mn or more, representing 1 per cent of all estates after an individual’s death. These properties would receive an average tax cut of about £1.1mn.
Eliminating the levy would reduce the Treasury’s future tax revenue, cautioned the think-tank.
At the current level, the tax is projected to raise £10.3bn by 2027-28. This is higher than the £8.2bn estimate by the Office for Budget Responsibility (OBR), the fiscal watchdog, according to the report.
The IFS noted that the OBR has underestimated projected inheritance revenues by not accounting for the increased wealth of future generations at death compared to the present.
The report also highlighted that if the inheritance tax remains in its current form, it would raise £15.3bn by 2032-33.
Currently, less than 4 per cent of estates pay inheritance tax. However, the IFS predicts this will rise to over 7 per cent by 2032-33.
The report further predicted that by 2032-33, one in eight people (12 per cent of the population) will have inheritance tax due on either their own or their spouse or civil partner’s death. In London, this number will rise to 23 per cent.
The report also found that inheritance tax has only a small impact on the distribution of inheritances received and intergenerational wealth mobility.
The wealthiest fifth of parents who will pass away in the next year are estimated to bequeath an average of £380,000 per child, with their estates paying approximately 10 per cent of this amount in inheritance tax. In contrast, the least wealthy fifth of parents will leave less than £2,000 per child.
The report provides specific recommendations to improve the inheritance tax system, which suffers from various problems leading to different forms of unfairness and inefficiency.
It calls for the abolition of certain exemptions and reliefs such as those given to business assets, certain types of shares, agricultural assets, pensions, and homes passed to direct descendants.
Sturrock said: “These exemptions and reliefs create opportunities to avoid inheritance tax. This is costly, unfair, and distorts economic decisions. Reforming them could generate an additional revenue of up to £4.5bn.”
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