The shadow chancellor John McDonnell has indicated support for a lifetime gift tax, a bold proposal that would replace inheritance tax and rake in an estimated £15bn a year. What is this tax proposal, and who is affected?
One of AccountingWEB’s most-read stories in recent times concerned the death of Ken Dodd. Before passing away, the comic married his long-term partner and deftly swerved a potential inheritance tax bill of up to £2.6m.
As AccountingWEB’s editor Tom Herbert reflected at the time: “Death, of course, is a significant tax planning event”. Inheritance tax liabilities, with the help of a canny adviser, can often be substantially reduced.
To some, in particular but not solely the political left, inherited wealth is a source of great anguish. The argument is that inherited wealth is unearned and perpetuates a cycle of privilege at the expense of pretty much everyone else.
French economist Thomas Piketty has extensively detailed how inherited wealth and wealth inequality buttress one another. In his book Capital in the Twenty-First Century, Piketty’s analysis showed that inheritance is once again becoming the key route to wealth.
Piketty arrives at a worrying conclusion: the proportion of people receiving an inheritance larger than the lifetime earnings of the bottom 50% is set to return to 19th-century levels over the next decades.
The lifetime gift tax
Recently, the shadow chancellor John McDonnell made waves when he told Sky News that Labour was “looking at” a lifetime gift tax (LGT) to replace IHT.
“We need to have a fairer system of how we can ensure that wealth is more fairly distributed – that’s one idea and we are listening to a whole range of ideas,” McDonnell said.
Regular readers of AccountingWEB might remember LGT from the Land from the Many report. One of the report’s authors, the economist Laurie MacFarlane, argued that “inheritance tax should be abolished completely and replaced by a lifetime gift tax”.
He continued, “this has been proposed by the Institute for Fiscal Studies as a more efficient way to tax inheritance. Any lifetime gifts over a certain amount should be taxed.”
Under LGT, tax would be levied on the gifts received above a lifetime allowance of £125,000.
“When this lifetime limit is reached, any income from gifts would be taxed annually at the same rate as income derived from labour under the income tax schedule,” the report read.
An estimate from the Resolution Foundation states that taxing gifts through the income tax system would raise £15bn in 2020/21. That’s £9.2bn more than the current inheritance tax system.
One of Land for the Many’s authors, the writer and activist George Monbiot, told AccountingWEB he was “very glad” that Labour is seriously considering the LGT proposal.
“I’m aware that there are formal processes through which potential policies have to pass within the party, including motions to the annual conference but I’m no expert on Labour party procedures. So I will await the outcome of those. Obviously, I would love to see our proposals adopted.”
Tax raid or fair play
The mainstream press hasn’t been kind to the LGT idea, to say the least. Scary headlines and rather superficial analysis of ‘trebling IHT’ abound. But LGT isn’t IHT. It would replace it.
“This is a different approach to taxation,” Monbiot said. “Not least because the tax is paid by the recipient, not the estate. The two approaches can’t be directly compared.” That point around the recipient paying is critical.
Geoffrey Todd, a partner at the law firm Boodle Hatfield, called this “a radical shift” along with “a much lower threshold before tax becomes due”. And there’s not really any way to avoid LGT, either.
For those seeking to minimise the impact of this new tax there are two obvious options, said Todd:
Accelerate the process of transfers of wealth to your children or grandchildren ahead of any possible Labour government.
Delay transfers of wealth until after a Labour Government in the hope that IHT will be reduced again.
The current proposals do include some conditional exemptions for business and agricultural property, however. “Tax could be deferred until the asset is sold or until the business ceases to be a trading entity and becomes an investment entity,” reads Land for the Many.
“This would allow families to maintain the integrity of agricultural land or business assets, but would also prevent inheritees from gaining large tax-free windfall gains. We believe that the cost and benefits of such an exemption need to be considered as part of the post-Brexit redesign of agricultural subsidies.”
What isn’t immediately clear, Todd said, was how LGT would interact with trusts. “Presumably, IHT on the trust itself will be abolished but distributions will be treated as lifetime gifts, subject to the new cap.”
It’s important, though, to remember the LGT proposal is long term. The report and its authors all recognise that to implement it “may take time”. Of more immediate consequence is Labour’s plans to reverse the Conservative government’s recent inheritance tax break for main residences.