Should inheritance tax be abolished, the rate cut, or limit raised?

Inheritance tax is hated even though the overwhelming majority of people aren’t rich enough for it to be levied on their loved ones.

Perhaps it inspires such loathing because it’s a tax on death, property and the natural desire to pass wealth down the generations, all wrapped up into one.

The 40 per cent rate is also drastically high if you have amassed enough assets to be liable for it on a big chunk of them, and the house price boom plus frozen thresholds are expected to drag many more families into its net in coming years.

So, given its unpopularity, what would be the best way to ease the burden of inheritance tax – perhaps raise the threshold, or cut the rate levied, or just abolish it altogether.

Or is it a disagreeable necessity to keep the public finances afloat – ditching it would forfeit £7billion a year – or a fair tax on the wealthiest that should be let alone, or even made tougher.

We asked money experts to debate the pros and cons of overhauling inheritance tax below. And if you have strong feelings on this one, there is a poll giving you a say below.

> 10 ways to avoid inheritance tax legally: Read a This is Money guide

How much is inheritance tax and who pays?

You need to be worth £325,000 if you are single, or £650,000 jointly if you are married or in a civil partnership, for your loved ones to have to stump up death duties. This is the main ‘nil rate band’.

But there is a further chunky allowance, known as the ‘residence nil rate band’, which increases the threshold to a joint £1million if you have a partner, own a property, and intend to leave money to your direct descendants.

Once an estate reaches £2million this own home allowance starts being removed by £1 for every £2 above this threshold. It vanishes completely by £2.3million

If you are worth more than this, your beneficiaries will have to hand over 40 per cent of your assets above those levels to the Government.

Only around 5 per cent of deceased people’s estates are liable for inheritance tax, but this figure is expected to rise as the thresholds explained above are frozen until 2028.

People inheriting property in the hottest house price spots, often due to work or family ties rather than by choice, are generally on the hook for the biggest sums.

Inheritance tax earned the Treasury £7.1billion in 2022/23, up £1billion on the year before. And receipts are forecast by the Office for Budget Responsibility to hit £7.2billion this year, and soar to £8.4billion by 2027/28.

Why is inheritance tax so unpopular?

‘There is a general feeling that people should be able to pass on assets to whomsoever they wish particularly when they have usually already paid tax on earning the money and probably on investment growth,’ says Richard Harwood, financial planner at wealth manager RBC Brewin Dolphin

‘The fact that the British have an affinity with homeownership also seems to add to this feeling that we should be able to pass the family home on to our descendants.’

Harwood adds that it is felt to be ‘one of those taxes that only rich people should pay – by which we mean people richer than us’.

And he notes the regional impact, because the value of property makes up a significant value of an individual’s estate, so this is a much bigger issue in London and the south east and possibly evokes more limited sympathy in people living elsewhere.

Inheritance tax is relatively lucrative but universally disliked and reform would be a crowd pleaser, according to Quilter tax and financial planning expert Rachael Griffin.

‘More and more people are getting caught in the inheritance tax net simply because of property wealth,’ she says.

‘Huge inflation on top of the cost-of-living crisis which disproportionately impacts young people means we need to be making it as easy possible for money to cascade to the next generations whether it is upon death of loved ones or crucially during their lifetime.’

Richard Harwood, financial planner at wealth manager RBC Brewin Dolphin, and Rachael Griffin, tax and financial planning expert at Quilter

How would YOU reform inheritance tax?

1. Raise the threshold

‘The thresholds are frozen and have been for many years, so this could at least be seen as bringing things into line with inflation,’ says Harwood. ‘From a political standpoint I suspect it would play well to “Middle England”.’

He reckons hiking the threshold would still play to the belief that only the rich should pay the tax, plus it would simplify things by reducing the number of estates having to pay up.

Griffin says exempting more estates by raising the threshold would give relief to middle-class families, who were not the original intended target of inheritance tax.

‘There are also aspects of inheritance tax that a ripe for simplification. The residence nil rate band, which reduces the amount of inheritance tax paid when passing on a main residence, is complex and poorly understood.

‘A far simpler approach would be to scrap it and increase the nil rate band. Between intricate rules on who is considered a family member, the downsizing provision and the possibility of using it on second homes, the RNRB relief is a puzzle for those navigating inheritance tax.’

2. Cut the 40% rate

This would lead to a reduction in tax revenue and probably fail to please many, as the principle would still exist, says Harwood.

‘Bringing in a tiered rate, as with income tax or stamp duty, may feel a little fairer but would create more complexity.’

He adds that financial advisers help many people arrange their assets to limit the effect of inheritance tax, and it is also possible to give away assets and avoid it if you live long enough.

‘So, we have a situation where it can be reduced in many cases and a degree of inequality exists between those that take advice and those that don’t. But that will always be the way when taxes have a degree of complexity.’

3. Abolish it outright

This would most certainly be popular with those who would pay inheritance under present rules, but also more generally as many feel it is unfair, says Harwood.

The obvious problem is lost tax revenue, which would need to come from elsewhere, but there could be other unforeseen ramifications, he warns.

‘Many financial advisers help clients to reduce potential inheritance tax on their estate by perfectly legal planning. One such example is investing in AIM listed shares. If inheritance tax were removed, we do not know if such shares would fall in value as they became less attractive to some.’

Griffin says: ‘Proponents of abolishing inheritance tax laud the move as a triumph for the spirit of meritocracy, pointing to the idea that someone might have built up their wealth throughout their lifetime, paid taxes on that income and therefore should be able to rest easy that their wealth will help generations to come.

‘Abolishing the tax could help turbo charge wealth creation and therefore the economy. Also, inheritance tax is a notorious administrative burden both for estates and HMRC.’

But she cautions that getting rid of it altogether could punch a hole in the budget and compound an already bleak economic outlook.

‘The tax also serves as a tool for wealth redistribution, helping bridge the ever-growing wealth divide. Inheritance tax’s role in wealth redistribution cannot be underestimated.

‘The tax primarily affects the wealthiest households, with the top 10 per cent of estates typically accounting for a big chunk of the overall inheritance tax bill.’

4. Change gifting rules

The Government’s independent tax gurus suggested reforming complicated inheritance tax gifting rules four years ago but no action was taken.

Harwood says people could be given the option to make larger gifts each year rather than £3,000, and have them be immediately exempt from inheritance tax.

‘Any gifts above the exempt amount currently escapes inheritance tax after seven years. Perhaps reducing the seven year rule, could allow for more effective and more frequent gifting of assets.’

Griffin also suggests revising the gifting laws that are currently frozen in time, after being set in 1981 and not changed since.

‘Had the allowance tracked inflation, it would be permissible to gift nearly £10,200 per tax year to the end of 2022 according to the Bank of England’s inflation calculator.’

‘Given the allowance has been unchanged for more than 40 years and considering the economic backdrop it would be wise to change this and give a well needed carrot to a public who have suffered a lot of stick.

‘Even if the various allowances are not uprated to help increase the amount of people making lifetime gifts all the allowances could be amalgamated into one annual relief at a rate that better reflects current inflation.’