Why a Labour inheritance tax raid would be a disaster for Britain

Inheritance Tax Labour

Labour could launch an inheritance tax raid on bereaved families, a leaked recording from a shadow frontbencher has suggested.

Darren Jones, the shadow chief secretary to the Treasury, told a public meeting in March that inheritance tax could be used to address “intergenerational inequality” and “redistribute wealth”.

The Conservatives said Mr Jones’ comments had “let the cat out of the bag” on Labour’s plans to tax family homes, but Labour said this was “total nonsense”.

Yet throughout the election campaign, the party has kept suspiciously quiet about its plans for inheritance tax.

In its manifesto, Labour only ruled out increasing income tax, National Insurance and VAT in the event of an election victory – fuelling concerns the party would instead attack capital gains and family wealth.

Jason Hollands, of wealth manager Evelyn Partners, said: “Given the manifesto statement that ‘a renewed focus on tax avoidance by large businesses and the wealthy will begin to close the tax gap and ensure everyone pays their fair share’, Labour could well announce a review into the inheritance tax and gifting regimes.”

But what would a raid on inheritance tax look like – and who would bear the brunt of it?

How Labour could increase death duties

Britain’s most hated tax has already hit all-time highs under the Tories. Bereaved families paid a record £7.5bn in death duties last year due to huge increases in property prices combined with the Government’s deep freeze of tax thresholds.

The nil-rate band – below which no inheritance tax paid – has remained stuck at £325,000 since 2009 and will be frozen until 2028-29 under current government plans.

Mr Hollands: “With the affluent post-war baby boomer generation now approaching average life expectancy, the next decade is expected to see a bonanza in inheritances of which a revenue constrained government that has boxed itself in with tax pledges elsewhere could see as a tempting tax opportunity.”

As a result, the number paying death duties is expected to jump from 33,000 this year to nearly 44,000 by the end of the next Parliament.

There are a number of policy changes Labour could make to widen the net even further.

Julia Rosenbloom, of law firm Shakespeare Martineau, said that the party’s silence on death duties suggested these policies were “unlikely to be crowd pleasers”.

For example, Labour could choose to scrap some of the tax reliefs on lifetime gifts, preventing people from giving away their wealth earlier without incurring a charge.

“Currently, there is no tax on gifts as long as the person gifting survives the transaction by seven years,” Ms Rosenbloom said. “With neighbouring countries in Europe already implementing a ‘gift tax’ it is possible the UK could follow suit.”

Alternatively, Labour could impose an inheritance tax raid on family homes by scrapping the residence nil-rate band.

This extra £175,000 allowance lets homeowners pass on £500,000 tax-free to their families – or £1m if they are a couple – provided their children or grandchildren inherit their main property.

Andy Butcher, of wealth manager Raymond James, said cutting this exemption would be “a further blow to families”, especially where the bulk of their wealth is in their home.

“This will again catch those that may not consider themselves the wealthiest in society, and likely the same families that have been squeezed so much by the Tory Government the past few years. This wouldn’t impact the very wealthiest in society.”

Mr Hollands said another concern is whether Labour would make pension pots part of an estate for inheritance tax purposes. Today, pensions can be inherited free from the contentious levy.

The economic cost of death duties

At 40pc, Britain’s inheritance tax rate is one of the highest in the Organisation for Economic Cooperation and Development (OECD).

The Centre for Policy Studies, a think tank, has called the levy “an inefficient tax which penalises work, savings, investment and capital accumulation, distorting behaviour with potentially significant aggregate economic consequences over time”.

Inheritance tax can be very painful for families – and yet the benefits for the public purse are surprisingly small.

Research by the OECD has found that inheritance tax generates relatively little revenue.

On average, it accounts for just 0.5pc of total tax take in countries that levy it. In fact, it exceeds 1pc of total taxation in only four OECD countries – Belgium, France, Japan and Korea.

It is generally easier for the ultra-wealthy to take advantage of tax reliefs and also move to lower-tax countries. This means families whose wealth is tied up in the home are often the hardest hit.

In recent decades, several countries repealed their inheritance tax for this reason and also over fears the levy would drive away wealthy business owners.

The most obvious example is Sweden, who abolished its inheritance tax in 2004 following an exodus of the wealthy from the country.

Business owners including TetraPak founder Ruben Rausing, Ikea founder Ingvar Kamprad and industrialist Fredrik Lundberg all fled because of the punitive tax policy.

Unlike Britain, the country had no inheritance tax relief for family-owned businesses. At the same time, the tax threshold was extremely low at just 70,000 Swedish krona, or around 101,210 krona (£7,462) in today’s money.

Mr Kamprad returned to the country only after the levy was scrapped. Capital also flowed back into the country. The Swedish tax authorities found that over four years 8,000 wealthy individuals moved assets back into the country.

Another country to ditch inheritance tax was Australia. Former prime minister Malcolm Fraser scrapped federal estate taxes in 1979 after a growing number of middle-class families became caught in the net.

The tax-free exemption was just $40,000 at the federal level – and as low as $12,000 in some states. By 1982, all states had dropped their estate taxes, which were wiped from the country.