The Office of Tax Simplification (OTS) published its long awaited report on the reform of Inheritance Tax this morning. Whilst the report doesn't give anything concrete to go on in terms of potential changes to the current legislation, it is helpful in giving insights into how the current system may change.
The OTS has suggested reducing the current "7 year rule" to 5 years. At present, gifts made in excess of the annual £3,000 IHT exemption by an individual within their lifetime, remain within their IHT estate for 7 years. The OTS has suggested reducing this to 5 years help simplify administration. Since executors can often only obtain bank records for the past 6 years, trying to establish gifts made up to 7 years ago can be problematic. This change would help. Even better though, is that gifts would fall out of an individual's IHT estate 2 years sooner, if these proposals were implemented.
There was comment on the annual IHT free gift allowance of £3,000 pa, which has not changed since the 1980s. Had this been increased in line with inflation, it would now be almost £12,000 pa per person. It would be good to see this exemption increased to a more meaningful figure. Similarly, had the Nil Rate Band been increased in line with inflation, it would now be £423,000 instead of the current level of £325,000.
The ability to make gifts which are immediately exempt from IHT, by using the "normal expenditure out of income" easement, was suggested to be too complicated. This rule allows individuals to give away their excess income on a regular basis, subject to a few conditions, without the 7 year rule applying. The report suggested that perhaps it would be better to replace this, and certain other allowances, with a single annual gift allowance.
There was much comment about the Residence Nil Rate Band; a flagship policy from David Cameron following his commitment that the Nil Rate Band for couples would be increased to £1m. He didn't quite achieve this as simply as it sounds, but in certain circumstances it is possible for couples to pass on £1m free of IHT. However as can be seen from the graphic above, the rules are highly complicated, and are not available to those with direct descendants. In our view, it would certainly help with planning if the Residence Nil Rate Band were abolished and replaced simply with a standard Nil Rate Band of £500,000 per person.
Summary
This report was a useful insight into the possible simplification of IHT, and we await the Treasury's response with interest. We have covered a few aspects here, but the report itself was actually quite comprehensive. We would certainly be in favour of simplification of some aspects of IHT, and an increase in the exemptions and allowances would be most welcome, to bring them into line with asset prices which have in many cases risen substantially since these levels were originally set.
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