As Labour’s first Budget approaches, rumours continue to swirl around which taxes could be targeted and the “painful decisions” that could be announced.
While many savers and retirees have been bracing themselves for tax changes to pension pots, the chancellor has reportedly shelved any plans to reform pension tax relief.
This has led to more speculation that Rachel Reeves’s tax-swinging axe could fall on death taxes, with changes to inheritance tax and capital gains tax potentially unveiled at the Budget on 30 October.
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“The chancellor might judge that inheritance tax is an area where revenue can be raised without provoking a widespread outcry,” comments Ian Dyall, head of estate planning at the wealth manager Evelyn Partners.
He adds that tightening up the IHT rules is a frontrunner for the Budget, but that “charging capital gains tax on the valuation of assets at death could be a dark horse in any bid to raise more money from the transfer of wealth”. Charging CGT on top of inheritance tax could lead to a “double death tax” of 54%.
The latest official figures show that capital gains tax receipts for July to September this year were 16.3% higher than the same period in 2023. Meanwhile, IHT receipts for April to September rose 10.3% to £4.3 billion compared to a year ago.
We look at seven revenue-raising options open to the chancellor from tweaking death taxes.
1, Scrap business and agricultural property relief
Business relief (formerly business property relief, which was introduced in 1976) reduces the value of business assets by either 50% or 100% for the purposes of calculating IHT.
Therefore, it allows business assets, or shares in qualifying companies, to be passed to the next generation – either during lifetime or in a will - without triggering a big inheritance tax bill.
Meanwhile, farming businesses benefit from agricultural property relief, allowing landowners to pass down farms to their children with either 50 or 100% relief. Countryside and farming business groups say this is vital for business continuity and families make decisions like sending children to agricultural college and investing in new equipment on the basis of it.
However, Labour has previously suggested that some of the reliefs available from inheritance tax are too generous, particularly business and agricultural reliefs, and experts believe they could be scrapped in the Budget. The Institute for Fiscal Studies and Resolution Foundation have also recommended restricting the reliefs.
The total cost to the Exchequer in 2023/24 for agricultural relief was estimated at £365 million, and an estimated £1.3 billion for business relief, according to the accountants RSM.
Dyall warns that such a move could result in many family-owned firms being sold, liquidated or broken up if inheritance tax was imposed in full. “It is probable that modest family-owned small and medium-sized enterprises could get caught up in measures intended to target the very wealthiest families, with unintended consequences for employment and local communities.”
2, Cut the nil-rate band
The main IHT nil-rate band has been frozen at £325,000 since 2009/10. Critics say that inflation in the values of property and investments means that more estates are being drawn into paying IHT.
Indeed, the government collected £4.3 billion in IHT receipts during April to September – the first six months of the tax year. This is £400 million (or 10%) higher than the same period a year ago.
So, it would be a bold Labour government that reduces this threshold. “If the nil-rate band was cut in any way, more families of relatively modest wealth will become liable to IHT, which might not be the headline that the new government wants,” notes Dyall.
He adds that it was unlikely that the headline IHT rate of 40% will be raised “as this is a relatively high rate by most standards”.
3, Axe the residence nil-rate band
One relief that has so far escaped much scrutiny is the residence nil-rate band (RNRB). Introduced by George Osborne in 2017 to appease Tory voters whose houses had soared in value (surpassing the £325,000 nil-rate band), the RNRB is an additional IHT allowance that can be claimed against the value of the main home where it is left to “direct descendants”.
RSM points out that it was estimated to cost the exchequer £1.8 billion in 2023/24, more than business and agricultural relief put together.
According to Aysha Marley, tax director at RSM, the cost of the RNRB “is significant enough to be on Rachel Reeves’s radar”.
She comments: “Those who intend to claim the RNRB, despite potentially not feeling ‘wealthy’, must own relatively valuable properties, such that the value of their estate exceeds the nil-rate band (£650,000 for a couple). Consequently, perhaps those individuals do not fit the definition of ‘working people’ whom Labour claimed they would protect from tax rises during the election campaign. Politically, is this therefore something Rachel Reeves could get away with scrapping?”
Dyall says the allowance has been criticised for discriminating against those who don’t have children or who simply choose to leave their main residence to someone who isn’t a direct descendant, adding: “The chancellor might just get rid of the RNRB altogether, with the possible sweetener of raising the main NRB by a token amount to something like £350k or £400k - although it’s not clear how much would be raised by this combination of steps.”
4, Crack down on gifting
One relatively easy way for the government to make it more difficult for families to avoid paying IHT would be to tighten up the gifting rules.
Dyall highlights the seven-year rule in particular, which means that most gifts of any size leave the donor’s estate after this time period.
“The annual gifting limits – which allow smaller gifts that leave the estate immediately - are very modest, having been frozen for more than four decades, so there’s not much wriggle-room there,” he says.
'The chancellor could however look at restricting the rules around "potentially exempt transfers", which provide an incentive to give away wealth during lifetime. That’s not just because the assets will leave the estate altogether if the giver is still alive after seven years, but also because after two years there is a chance the gift(s) could be entitled to taper relief, where the IHT rate falls to as low as 8%.”
According to Dyall, the rule could be extended out to 10 or more years or even abolished, “but this is unlikely to raise much for the Treasury in this parliament unless it is applied retrospectively, which seems unlikely”.
5, Exclude Aim shares from business relief
Aim shares can potentially qualify for business relief for inheritance tax purposes. If an investor holds qualifying Aim shares for at least two years before their death, those shares may be eligible for 100% relief from IHT.
Critics argue that this “anomaly” means business relief is exploited by some investors as a loophole, and that it should be removed.
Dyall notes: “It should be possible to exclude Aim shares from business relief without dismantling the relief altogether, but even that step must be examined for the unintended consequences it could have for the Aim market and encouraging funding for smaller UK companies.”
6, Charge capital gains tax at death
The Office of Tax Simplification, Institute for Fiscal Studies, and Demos, another think tank, have all called for CGT to be reformed.
Applying the tax to any gains at death could be an attractive “under-the-radar possibility” for Reeves, claims Dyall.
He notes: “It could raise a decent amount even though the implications could take a while to sink in for many people.”
Dyall explains that currently, when someone passes on assets at death the capital gain they were sitting on is effectively erased and the beneficiary’s “purchase price” for the purposes of any future capital gain calculation is “uplifted” to the valuation at the point of death. “In other words, a potential capital gains bill is extinguished, and a potentially large one too as the pregnant gain on assets held at death could have built up over several decades.”
This could be targeted by either charging CGT on the gains at point of death, or making the beneficiary liable for all of the capital gains on assets inherited, back to the base cost when they were purchased by the deceased. “The former, more aggressive, step would probably mean the estate will have to pay the CGT bill, as well as any IHT bill, and that could mean having to dispose of some assets – but would raise funds more rapidly for the Treasury.”
We look into this in more detail in Could Labour impose a “double death tax” of more than 50%?
7, Tax defined contribution pension pots
Defined contribution pension pots are usually not counted as part of a someone’s estate for inheritance tax purposes. This means that families can pass on large pensions free of IHT, and not only that but beneficiaries can receive withdrawals from pension pots free of income tax if the death occurs before age 75.
Dyall says: “It’s quite possible - and even, reading the runes, quite probable - that the Budget will reform the favourable tax treatment of pension pots at death. This could take the form of the full fund being subject to IHT or just the excess over the current death benefit limit of £1,073,100.”
According to Dyall, bringing DC pension pots into someone’s taxable estate could be portrayed as fixing an IHT "loophole" and will have little impact on economic incentives. “And the income tax rule for income withdrawals if the death occurred pre age 75 could also be abolished to make future withdrawals taxable at the beneficiary's marginal rate in all circumstances.”
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