Why we need to radically reform inheritance tax

I upset rather a lot of you with last week's article. Some of you wrote in support of my ideas on how we should tax inheritance. Many did not. You say that you have read my column for years, that you are long-term fans and that you usually agree with me, but that on this issue, you must fundamentally disagree.

Given that almost nothing upsets me more than upsetting you, I am going to return to the subject this week and run through your objections one by one.

My argument was that we look at inheritance the wrong way round. Instead of thinking of it as a tax on the capital wealth of the dead who no longer have an interest in the matter (as one doctor pointed out to me, no one in his "fridge room" has ever mentioned taxes), we should think of it as a tax on unearned income accruing to the living.

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Unearned inheritances would be taxed in the same way as earned income. All loopholes would be closed, with any gifts given during the donor's lifetime also falling into the income tax net (no more trusts, no more IHT-free business assets, no more seven-year rule or free gifting out of excess income).

This would be simple it would be collected via self-assessment as it is in Ireland and, as with all simplifications that closed loopholes, it would also raise significant amounts of money that might even allow an overall reduction in income tax rates (which is what I consider to be the final goal here).

On to the first major objection. It is that inheritance tax is a double tax and so is this new levy let's call it a 'gift tax' or GT. I have a few answers to this.

The first is that money is constantly circulating and being taxed at every turn. VAT is a double tax. Un-indexed capital gain is a double tax. Almost the only thing that isn't is IHT on the untaxed capital gains made on primary properties in the UK by the dead.

The second is that if you look at an inheritance as an income to the recipient, it isn't a double tax on any one individual. The recipient hasn't paid tax on the money yet the income tax on it is, from his perspective, the taxman's first bite of the cherry.

Look at it like that and you can instantly see that the double taxation argument is nonsense. If this still isn't convincing, note that income doesn't have to be taxed. Anyone receiving a lump sum at their marginal rate might pop it into their pension over a period of years and claim that tax back making their inheritance effectively tax-free after all. A GT could instantly arrange things such that inheritance becomes pensions. Clever, isn't it?

Next up is the argument from farms and small businesses. These can effectively be passed down through families inheritance tax-free which is why farmland has outperformed Mayfair property over the past decade. Take away that loophole and charge the recipients income tax, say the owners of farms and firms, and they will all collapse.

Maybe, maybe not. There is much worry in the UK about short-termism how owners of small companies tend to sell up rather than build their businesses. So how about making income tax deferrable on inherited business assets? You would become liable for it not when you receive the business, but when you sell it, something that gives a clear incentive not to dispose of a business.

Next is the idea that people who have cared for their parents somehow deserve their inheritance and we shouldn't mess with that. This seems to be a circular argument in that if you are caring only to be rewarded by an inheritance, surely that inheritance is deferred earned income and should be taxed as such? I think that's all we need to say there.

Many of you also objected to GT by suggesting that it looks at the problem in the UK from the wrong perspective: it is property prices that are too high, not IHTs that are too low. If inheriting a house in the south wasn't quite such a stunningly life changing event, would we all care quite so much about this?

I entirely agree that we have a problem with property prices (see many pastarticles). But I'm not sure it has anything to do with my basic premise, so I'm afraid I'm dismissing that one too.

The final point made by many of you is that I shouldn't be thinking about how the state can raise more tax revenue, but about how we can force it to slash spending.

I am of course deeply concerned about this issue (see more past articles), but I can't see a situation in which the electorate will genuinely tolerate a fall in spending to below 40% of GDP given our ageing population and pressure on the NHS and pensions systems. Unless that changes, the tax must be raised and in the simplest way possible.

That pretty much covers your objections. But there is one more vital argument I want to make for radical reform of the inheritance tax regime. It is about the quality of life of our over-55s. I rarely meet a person in that age bracket who knows what I do who doesn't ask me about it.

They think of endless complicated schemes and get scammed by people who can think of more. They give away money they can't really afford to give away to take advantage of the seven-year rule; they move out of houses they really wanted to stay in; and they worry about fairness should they leave more to their bankrupt dimwit of a son than their hardworking successful daughter?

Changing everything around so that any tax payable is nothing to do with their actions and everything to do with the incomes of their children would make these problems disappear. It would in that sense be a very kind policy. There aren't enough of those about.

This article was first published in the Financial Times.