Chancellor Darling doubles inheritance tax threshold .jpg

Chancellor Darling doubles inheritance tax threshold


Financial Correspondent, Blevins Franks

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NEW CHANCELLOR, Alistair Darling, aimed to make headlines on October 9 by announcing a change to the UK inheritance tax (IHT) rules, which he claims will benefit 12 million couples.

Just a year ago, when former Labour cabinet minister Stephen Byers called for IHT, a “tax on death [and] penalty on hard work, thrift and enterprise”, to be abolished, Darling (the then Trade Secretary) had scoffed at the idea. “It may make for a headline, but I don’t think it makes for prudent and sensible tax and spend policy”, he said.

But now, in his first Pre-Budget Report, Darling announced an increase to the IHT threshold from £300,000 to £600,000 for spouses and civil partners.

So, what happened to make the government change its mind and reduce the IHT burden on British households? It has become increasingly unpopular and political parties have chosen to use the IHT’s unpopularity to their advantage. By announcing favourable changes, they hope to swing voters.

IHT is charged at 40 per cent of the value of an individual’s worldwide assets, over a tax free threshold of 300,000 pounds sterling. There is no tax between husband and wife (unless one of them is UK non-domicile). IHT applies to anyone who is a domicile in the UK, rather than those who are resident in the UK. So foreign workers in the UK are exempt, but expatriates who retain their UK domicile status are liable.

The government earns significant revenue from this tax, bolstered by house price increases over recent years. Ten years ago, the Treasury raised 1.68 billion pounds sterling. By the last financial year, it had increased to 3.6 billion pounds sterling, with four billion pounds sterling forecast for this year.

Conservative proposals

At their party conference at the beginning of the month, shadow Chancellor George Osborne promised to increase the IHT threshold from 300,000 pounds sterling to one million pounds sterling if the Conservatives are elected at the next General Election.

Nine million families would escape the burden of IHT under this proposal.

Osborne complained: “When inheritance tax was first introduced, it was designed to hit the very rich. But the very rich hire advisers to make sure they don’t pay it. Instead, thanks to Gordon Brown, this unfair tax falls increasingly on the aspirations of ordinary people”.

Osborne proposes to pay for the tax cut by charging “non-doms” (non-domiciles – foreign workers who do not pay tax on their overseas earnings) 25,000 pounds sterling annually.

The government claimed that these sums do not add up, that there were less non-doms than the Tories claimed and that many are doctors and nurses who would be hit hard by the charge.

Raised threshold

A week later, the Labour government raised the threshold to 600,000 pounds sterling for couples during the Pre-Budget Report.

However, while the headline: “IHT threshold doubles to 600,000 pounds sterling” looks attractive at first glance, when you look at the details it is not actually a tax cut since steps can already be taken to achieve the same result. What it will do, though, is make IHT planning easier and couples can plan their IHT issues for the second death rather than the first.

Each person who dies has a threshold (or ‘nil rate band’) of 300,000 pounds sterling. Under the new rules, a spouse can pass on this tax free allowance to their spouse so that on the second death the threshold is 600,000 pounds sterling. The same rules apply to civil partners. For individuals, the threshold remains at 300,000 pounds sterling.

In tax terms, this is not that different from the current rules. With some basic IHT nil rate band planning, you can already arrange your affairs so both nil rate bands are utilised, giving a couple a total threshold of 600,000 pounds sterling. For all those who have already taken such steps, the new measure will not save them any tax.

Also, the new threshold only applies on death so lifetime planning will not benefit either. All those couples who have not taken the necessary steps to utilise both nil rate bands, and where the major asset is the private residence – such planning could be complex, will benefit from a tax saving of 120,000 pounds sterling.

The new rule will be backdated so widows and widowers can benefit. If a widow has assets worth 600,000 pounds sterling, previously her estate would have had to pay 120,000 pounds sterling in IHT. Now there will be no tax to pay.

It is also worth noting that although Darling announced that the 600,000 pounds sterling threshold will increase to 700,000 pounds sterling by 2010, this is not a tax cut. The 350,000 pounds sterling individual allowance was already announced at this year’s spring budget.

Perhaps more encouraging was Darling’s promise that future IHT thresholds will take house prices and inflation into account to ensure the tax only affects the wealthiest in society but we shall have to wait and see how this pans out.

Residence rules

The government is also planning to tax non-doms in order to help fund the measure. It will issue a consultation to tackle the ‘tricky subject’ but has said that tougher rules will be applied to those who currently avoid tax in Britain through their “resident but non-domiciled status”.

It will also apply tougher rules on wealthy individuals who are “domiciled but not resident”. Beginning next April, both the days of arrival and departure will be counted when assessing whether someone has been in England for more than 90 days a year and therefore a tax resident there.