As we hurtle towards another election, are we about to face any significant changes to capital taxes?
If you have been following any of the Conservative party chatter, you won’t have missed the increasing clamour from Tory politicians for the abolition of Inheritance Tax (IHT). Perhaps changing economic conditions and an upcoming election will make all politicians weigh up whether existing capital taxes are fit for purpose?
After all, Capital Gains Tax (CGT) has existed since 1965 and IHT since 1986. Tax rates and allowances have been tinkered with, but capital taxes have remained broadly static for forty years.
The gradual eroding of the value of the IHT nil rate band now means many more people pay IHT. It is also worth noting that if you have significant wealth, it is largely a choice as to whether to pay IHT. After all, problem assets can be disposed of in lifetime, perhaps with a CGT charge, whilst assets qualifying for relief can be kept until death. IHT is probably not collecting tax from the intended people now and is perhaps ripe for reform.
Obviously, CGT is also tied up with IHT, the tax-free uplift to market value on death for CGT purposes being one example.
It is hard to see why someone selling a farm with a £1million gain, giving the money to their daughter, and then dying the following day is landed with a CGT charge of £200,000 (assuming no reliefs), and then the resulting sum facing a 40% IHT charge on death, another £320,000. This leads to tax of £520,000 or 52%.
Contrast this with leaving the farm to the daughter on death, no IHT due to Agricultural Property Relief; a sale the following day would result in no CGT, so the daughter gets the full £1 million, in her pocket at an effective tax rate of 0%!
It is hard to defend this difference and to a large extent it often clouds commercial logic to sell or transfer assets earlier.
We have heard noises from the Labour Party suggesting they might increase CGT rates to the same as income tax rates. This raises plenty of questions, notably, would indexation be reintroduced? Would rebasing apply? Although Labour’s shadow Chancellor, Rachel Reeves, has ruled this out.
In fact, our current Prime Minister had already asked the Office of Tax Simplification (OTS) to suggest changes to both IHT and CGT whilst he was Chancellor of the Exchequer. The OTS’ recommendations can be summarised as follows; For CGT, align with income tax rates, remove the CGT rebasing on death, reintroduce indexation or rebase assets to a more recent date.
For IHT, the CGT uplift on death was on the list of things to remove, along with a change to the trading/investment business test, increasing the trade element from more than 50% to more than 80%.
Perhaps a more radical approach was proposed by the All Party Parliamentary Group for Intergenerational Fairness (yes, there is such a thing!)
This Group recognised the low tax take from IHT and suggested scrapping it. Yes, that approach is back where we started this piece, with politicians calling for it ahead of an election. It proposed CGT at lower rates, perhaps 10% or 20% but levied on almost all capital disposals, with either the lower rate applying to business transfers or holdover relief still being maintained. In the latter case, tax is only paid when the assets are sold and not reinvested in business assets.
So, is the climate for fundamental changes to capital taxes now more favourable than it has been in the last 30 years? In my opinion, yes, but will any politicians be brave enough to have a radical rethink of capital taxes policy, delivering something that is fairer but potentially raises more tax revenue?
We might get a hint of future Conservative tax policy at the Autumn statement on 22 November. We should also get an idea of Labour’s tax policies in advance of the next general election, so it will be interesting to see whether any of them pay any attention to the reports generated over the last few years.
By Rob Hitch (Partner)
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