Chancellor Rachel Reeves is reportedly planning to launch an inheritance tax raid on savers in the Budget, possibly by changing key thresholds or other relief.
Inheritance tax is currently charged at 40 per cent on assets above the head threshold of £325,000 when people die.
But there is a significant additional sum of €175,000 if your main home is part of your estate and you leave it to direct descendants – couples can therefore pass on up to €1 million.
One option open to the chancellor is to merge the two thresholds – known in financial jargon as the zero interest rate band and the zero interest rate band for residence – but reduce the total amount you can leave to loved ones free of inheritance tax.
Inheritance tax: only the richest 4 percent of families pay it, but even more are being dragged into the net
Another persistent rumor is that the Chancellor could include pensions among the assets counted for inheritance tax.
Currently, those who inherit a pension either pay no tax if the holder dies before the age of 75, or pay their normal income tax rate – where the money they receive is added to their income to calculate this – if they are 75 or over.
There’s also a slew of exemptions covering donations, encouraging people to invest in start-up businesses and protecting family farms, all of which could be tinkered with to collect more inheritance taxes – often called the ‘most hated’ of all this country’s taxes.
> Read more: How does inheritance tax work? And 10 Ways to Avoid Inheritance Taxes Legally
Only the wealthiest 4 percent of families pay estate taxes, and there are many ways to plan ahead and help your loved ones avoid the tax.
However, the property boom of recent decades and frozen thresholds are leaving many more grieving families in the net of inheritance tax, and as a result the Treasury has been taking in ever-increasing sums.
Meanwhile, damaging knock-on effects could occur if certain reliefs are changed, which run counter to the government’s goal of promoting economic growth.
Corporate Property Relief offers an inheritance tax rebate to those who invest at least two years in some of the most adventurous and therefore riskiest companies, so a crackdown could hit actual companies and the AIM market.
Nowadays you can also pass on property free of inheritance tax if it qualifies for an agricultural allowance, which the government defines as ‘land or pasture used for growing crops or for intensive animal breeding’.
Wealthy people often invest in farmland to reduce their estate taxes as a result of this exemption, which is intended to protect farmers. However, any incursion into this area would also have consequences for farming families.
Sarah Coles, head of personal finance at Hargreaves Lansdown, says reports that inheritance tax exemptions are in the Chancellor’s sights will strike fear in the hearts of one in 10 pensioners, who say it is the Budget measure they dread most .
‘It’s hardly surprising. The fact that so few estates pay inheritance tax is in large part due to these exemptions, so if the government were to adjust some of the big hitters it would be devastating for millions of families.”
She added: ‘The figures show that £15.5 billion was transferred tax-free to spouses and civil partners in 2020/21, making this the biggest inheritance tax benefit ever.
‘If this were changed, instead of the surviving partner being able to give away up to £1 million free of inheritance tax, this could be limited to £500,000.
‘The hope is that because this is such a vital exemption, the Government will be wary of making a change that would cause potential hardship for so many, and could result in people being forced to sell their homes to to pay an inheritance tax bill.’
Hargreaves adds that treating pensions in the same way as other savings and investments for inheritance tax purposes would be a blow to anyone planning to pass their pots on to other family members, but it would encourage people to spend the money or to give more gifts while they are still alive.
Rachael Griffin, tax and financial planning expert at Quilter, says the bulk of the £7 billion annual inheritance tax revenue comes from those who are well off, largely because they have worked hard, saved and diligently have invested.
“If Labour’s reforms are seen as a hasty tax grab, they are likely to face significant backlash. Policymakers should seriously address inheritance reform rather than using it as a political tool and revenue generator.
‘The Labor Party has been eyeing the reform or even termination of several tax credits, such as the agricultural and business property exemption, with a view to potentially abolishing, limiting or redefining these benefits, which could have the knock-on effect of The AIM share loses its inheritance tax benefit.
‘A move that seems strange for a government looking to boost growth and investment in British assets.’
But she added: ‘If the reports are true and Labor chooses to make the IHT tougher, it could choose to balance this by modernizing the donation laws.
‘Simplifying the inheritance regime and increasing the annual gift tax exemption could ease the complexity of transferring assets and help families pass on their assets during their lifetime.’
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