Overview

At the upcoming Budget, the government is expected to set out its plans to fill the £22bn ‘fiscal hole'. If widespread media reports are accurate, this may include changes to the inheritance tax regime. With the government having ruled out tax rises ‘on working people’, inheritance tax remains a critical tax from which additional revenue could be unlocked.

As Demos has argued through our multi-year Unlocking Inheritance programme, the UK has entered a ‘new age of inheritance’ with the value of inheritance passed on annually doubling roughly every 20 years, reaching over £120bn. Our current regime for taxing these is out of date, with just 4% of inheritance paid in tax and the wealthiest estates paying lower rates than others.

Our public attitudes research has also shown how public attitudes to inheritance tax are more nuanced than is sometimes assumed. While it is often reported that inheritance tax is widely opposed, our research in polling and focus groups has shown that, when the public are presented with policy decisions - around which taxes to cut, whether to prioritise scrapping inheritance tax vs funding public services, and where to set the inheritance tax threshold - people express much less interest in cutting it, and more 
interest in reform.

Well-designed reforms to inheritance tax could raise revenue while making the tax fairer at the same time. This is achieved by countries such as France, Japan and South Korea -who raise more from inheritance tax than the UK, and in a more progressive way.

Key recommendations

Drawing on insights from Demos’s multi-year Unlocking Inheritance programme - and new analysis from a deliberative exercise with the public, economic modelling, and discussion with experts - we identified the following inheritance tax reforms as those that would simultaneously raise revenue, make the system fairer and expand public support for the tax.

Introduce rate bands - Move from flat rate of 40% to rate bands at:
• 30% for any inheritance under £1m
• 40% for inheritance between £1m and £2m
• 45% for inheritance over £2m

Reduce tax-free allowances for the top 1% of estates - Start tapering off the nil-rate band (minimum tax-free allowance) for estates over £2m, in the same way that is currently done for the residence nil-rate band (the additional allowance for people passing on homes to children or grandchildren). This would mean reducing the full allowance (the sum of the nil-rate band and residence nil-rate band) by £1 for every £2 above £2m.

Cap inheritance tax business relief - Rather than offering full tax relief for certain business assets up to any value, cap business relief, so that relief is only available on the first £500,000 of business assets in an estate.

Tax all capital gains on inherited assets - Remove the ‘uplift’ in capital gains tax for inherited assets, which currently means if an asset is passed on in inheritance, the capital gains accrued up to that point do not count towards capital gains tax when the asset is sold. Instead, when the asset is sold, apply capital gains tax to any gains since the asset was purchased.