Taxing Times

Blog – 30 July 2024

Rachel Reeves has announced a number of spending cuts amid claims of a ￡22 billion hole in the public finances. The announcements so far include scrapping Winter Fuel Payments ?for around 10 million pensioners not in receipt of pension credit, scrapping a cap on the amount people pay for social care and stopping "non-essential" government spending on consultants. The Chancellor said the “inheritance from the previous government is unforgivable,” but Shadow Chancellor Jeremy Hunt argued that the Treasury audit was a “shameless attempt to lay the ground for tax rises.”

The Chancellor has warned of a “difficult decision” on tax in the Budget scheduled for October 30 due to spending concerns. As announced prior to the election Labour has ruled out increases in Income Tax, National Insurance and VAT. This therefore focuses attention on other taxes where no such commitment was made.

The main targets are therefore inheritance and capital gains taxes plus extra taxes on those non UK domiciled. This fits in with Labour’s promise to renew the focus on tax avoidance by “the wealthy” to “ensure everyone pays their fair share”.

The government have allegedly drafted ways to raise money with changes to Capital Gains Tax (CGT) and Inheritance Tax (IHT) under consideration – measures that could raise up to ￡10bn.

Inheritance Tax

As regards IHT currently, business relief allows family firms to be passed from one generation to the next with either a full or 50% reduction on the very unpopular IHT, which is usually charged at a rate of 40%. However, Family Business UK (FBUK) warned that scrapping or cutting the exemption would weaken the incentive for owners to invest.

The group also warned that families inheriting a business might even be forced to shut up shop, or sell it to outsiders, in order to cover the potentially crippling tax bill. Businesses consulted by the group warned that “any policy decision that restricts the reliefs would likely result in family businesses being broken up, offshoring, or — in the worst-case scenario — closing”.

The government has made increasing private sector investment a strategic priority as it seeks to jump-start economic growth. The FBUK, told the Financial Times that the timing of the group’s intervention was motivated partly by the possibility the government may seek to raise more money through taxation.

The concern is that If you do not come from a business environment or haven’t worked strongly in government with family businesses, it could be easy just to abolish the relief but think that would be a very significant mistake.”

The Institute for Fiscal Studies (IFS) has previously calculated that capping the business relief from inheritance tax at ￡500,000 would raise ￡1.1bn a year for the public purse.

The think-tank estimated that abolishing it would generate ￡1.4bn, assuming businesses did not change their behaviour.

While business relief is used by many family-owned firms, the IFS said about 80% of the relief actually goes to people who have bought shares in quoted companies, particularly those on London’s junior Aim market.

The IFS said last year that business relief was “costly and inequitable” and distorted economic decisions.

FBUK estimates that family-run businesses account for 13.9 million jobs — about half of all UK private sector employment.

It argues that the current regime, which also enables business assets to be gifted free of CGT “promotes serial entrepreneurship and rewards the risk takers in our economy, by providing much needed motivation to invest”.

It is not surprising that families are increasingly giving cash gifts to family members in order to reduce their inheritance tax bills. Analysis shows that Britons are now giving over ￡2 billion per year in cash gifts, a 40% increase in the past five years.

Capital Gains Tax

It is almost inevitable that there will be a change to CGT with an increase in the rate it is charged most likely. If the rates of CGT are set in line with those for Income Tax there is likely to be some form of relief for assets held for a period of time to ensure the inflation element of a gain is eliminated and to provide some incentive to invest still. If an announcement of an increase is made in the Autumn budget it may not be effective until 6 April 2025 as this will encourage sales before then hence increasing government revenue in the short term.

Of course, another option would be to increase the current CGT rates but keep them lower than income tax rates so that investment is not discouraged so much. Also, this would not discourage sales to the same extent.

Planning for CGT is not difficult. For those married or in a civil partnership some planning may be possible by transferring assets prior to sale to a partner liable to tax at a lower tax rate. Other possibilities are to stagger sales so that the benefit of multiple annual exemptions can be taken. It is unlikely that the annual exemption will be abolished or reduced substantially as to do so would create work for small investors and HMRC.

Non-UK domiciled

Labour have indicated that they will tighten the previous governments proposed reforms particularly where excluded property trusts are concerned. However, as the Conservatives use to argue these people are mobile and may re-locate to a more tax friendly environment if the tax burden is thought to be too high. There have already been reports of those who feel this way. Of course, there are others who may be put off coming to the UK in the first place if they intended to stay more than 4 years which is when they will be subject to the new rules.

It is not only income tax on overseas assets that is a concern here but IHT. Currently, an individual’s liability to IHT depends on their domicile status and the location of the asset in question. However, it is likely that Labour intend to follow the Conservatives plans and move to a residence based regime for IHT. The plan announced was that an individual’s worldwide assets would fall within the scope of IHT if UK resident for 10 years. Furthermore, once within the scope of IHT will remain liable for 10 years after ceasing UK residence.

?

Summary

As can be appreciated while raising Income Tax, National Insurance and VAT are easier options to implement and assess there are other taxes that can be used to raise funds. Arguably reaction to changes is more difficult to assess with these. It should not be forgotten that the freeze to personal allowances and rate bands creates a built-in stealth tax and IHT receipts are raising substantially without any intervention.

It seems however that taxes need to be raised still further to meet Government expenditure.