The only way is up: inheritance tax liabilities

In a sense, inheritance tax (IHT) is the UK’s version of wealth tax. Although unlike our continental neighbours, it is mostly collected on death (some ‘lifetime’ IHT is collected, through large chargeable transfers and discretionary trust charges).

And as wealth increases, naturally the potential tax take increases. And this is in no small part escalated by the fact that the nil rate band (NRB) is frozen until April 2018.

As regards people’s wealth, HMRC statistics tell us that half of all deceased’s estates are represented by the family home and a significant part is in stocks and shares; so how did they do in 2013?

Against a NRB which went up 0%, the Halifax Property Index (not seasonally adjusted) went up over 5%, the total return from the FTSE 100 was over 18% and for the FTSE World ex-UK Index the return was over 22%. (Data provided by Financial Express)

This is inevitably leading to more estates being subject to IHT and the tax receipts soaring. The effect can be seen in the latest statistics from HMRC.

IHT taxpayers

Although a small proportion of IHT could be payable during someone’s lifetime, by them as a discretionary trust settlor or by their trustees, the bulk of IHT is collected after death. So when you consider the number of IHT taxpayers on death, it is mostly a case of the number of estates where IHT was paid by the legal personal representatives.

The chart below shows the number of taxpayers to April 2014.

Numbers of IHT players

Source: HMRC

The numbers for 2011-14 are provisional, with 2013-14 projected in line with the recent 2013 Autumn Statement.

This rollercoaster ride has been mostly caused (according to HMRC) by the introduction of the transferable NRB in October 2007, which led to a significant reduction in the number of IHT payers during 2007-08 and 2008-09.

Tax receipts

As you can imagine, the tax collected follows a similar pattern to the number of taxpayers.

IHT receipts

Source: HMRC

It is interesting to see the receipts in the last two years have, in each case, increased by 7% on the year before.

Budget 2014

But where do we go from here? The Budget in March made no change to the freezing of the nil rate band until April 2018 and the only new provision was to exempt members of the emergency services from IHT if death was on duty or the cause originated on duty.

You would think that IHT receipts might increase in the next few years and you’d certainly be right. And it’s ‘rocket’ rather than increase.

And it’s not me saying that, it’s the Office for Budget Responsibility. This organisation was created by the Chancellor in 2010 to provide independent and authoritative analysis of the UK’s public finances.

It produces five-year forecasts for the economy and public finances, which accompany the Chancellor’s Budget Statement. This year, it had interesting things to say about IHT and selected comments include:

“the recovery in house prices over the past year has also helped to generate an 11 per cent rise in inheritance tax receipts in 2013-14. Further rises in house prices, equity prices and the stock of household deposits over the forecast period and the tax structure of IHT are expected to drive a rise of nearly 70 per cent in IHT receipts by 2018-19...

“Our forecast suggests that the proportion of deaths resulting in estates large enough to attract IHT liabilities will double over the next five years from a little under one in 20 to a little under one in ten.”

The message is clear; twice as many of your clients will have an IHT problem in future. Estate planning is going to be a major area of advice for professional advisers.

Solutions to the IHT conundrum

So what can people do about IHT, if they’d prefer their families not to be hit by a substantial tax bill after they’ve gone?

There are many ways of estate planning nowadays, but a fundamental strategy could be:

  1. Make a will – and possibly consider will trusts
  2. Use exemptions – but this could just be scratching the surface unless the normal expenditure out of income exemption can be used substantially
  3. Gain tax relief – by ensuring existing businesses meet the criteria for up to 100% relief and by investing in schemes involving business property relief and AIM shares (including through ISAs)
  4. Make gifts – in trust or outright
  5. Life insurance – the client won’t actually avoid any tax, but at least they can exchange a large bill for a regular premium payment, which could be more acceptable

This could really be a year of renaissance for estate planning. Interest in the subject amongst advisers has been growing rapidly in the last few years – especially as it is a service that should not lend itself to direct dealing or ‘execution only’ business.

According to a leading adviser, who happened to be passing by (literally) earlier this week, estate planning referrals – especially from professional connections – are coming in thick and fast.

Overall, an adviser service where all the portents are good for your participation.

Canada Life Limited is authorised by the Prudential Regulation Authority and regulated by the Financial Conduct Authority and the Prudential Regulation Authority. Canada Life International Limited and CLI Institutional Limited are Isle of Man registered companies authorised and regulated by the Isle of Man Insurance and Pensions Authority. Canada Life International Assurance Limited is authorised and regulated by the Central Bank of Ireland.