ICAEW.com works better with JavaScript enabled.


Inheritance tax reform

Author: Lindsey Wicks

Published: 01 Jul 2021

Inheritance tax reform article image

Freezing inheritance tax thresholds was not widely anticipated ahead of the Spring 2021 Budget. Lindsey Wicks considers how the move will affect post-pandemic government revenue and social mobility, and reviews reports on inheritance and capital taxation from the Institute for Fiscal Studies, the Treasury Select Committee and the OECD.

The inheritance tax (IHT) nil rate band (NRB) has been at its current level of £325,000 since 6 April 2009. Following the announcement to freeze a number of tax thresholds at Budget 2021, the NRB is set to remain at that level until at least 5 April 2026. The residence nil rate band (RNRB) has increased by £25,000 each year since its introduction on 6 April 2017. Currently standing at £175,000, the RNRB, together with its £2m taper threshold, were both due to start increasing annually in line with CPI inflation from 2021/22, but are now frozen until 5 April 2026.

The rationale for freezing allowances is quite clear. The government has to increase tax revenues to recoup the costs arising from the coronavirus pandemic. Table 2.1 of Budget 2021 reveals that freezing these thresholds is estimated to raise £985m over the period to 2025/26. But how many more estates will fall into the IHT net?

Number of estates subject to IHT

The latest statistics, published in December 2020, show that in 2017/18, only 3.9% of UK deaths resulted in an IHT charge. The 2016/17 figure had been 4.6% and the 0.7% reduction is attributed to the introduction of the RNRB.


The historic high point had been 5.9% in 2006/07. Following that high point, there was a decrease in the proportion of UK deaths liable to IHT followed by IHT receipts. This is due to the combined effects of the introduction of the transferable NRB in October 2007 and the fall in asset values following the 2008 financial crisis. However, the numbers climbed steadily again until the 2017/18 reduction.

Asset values and estate composition

Data also shows that in the period from 2009/10 to 2017/18, the gross capital value of estates increased by around £35bn to £100bn, with 58% of that increase attributable to residential property.

And we know that house prices are still rising. The latest house price data shows that (with the exception of Northern Ireland) average house prices have more than recovered from the 2008 financial crisis. All countries in the UK continue to see an upward trend in prices.

The average UK house price of £250,341 in February 2021 reveals that many homes will still be unlikely to fall within the IHT net if the house attracts the RNRB and the value of other assets are low. However, at £496,000 in December 2020, the average house in London alone is getting very close to being subject to IHT if the estate cannot benefit from transferable allowances.

Historic data demonstrates that where net estate value is less than £1m, estates consist mainly of residential property and cash. Above this limit, estates are more likely to consist of securities and other assets, attracting reliefs such as agricultural property relief (APR) and business property relief (BPR).

The fact that higher value estates have a lower effective tax rate because they are covered by a relief was also highlighted by the Office of Tax Simplification (OTS) in the first report of its IHT review. Based on 2015/16 HMRC data, it found that, on average, 70% of the value of an estate worth more than £10m is relieved in this way.

Social mobility and attitudes to inheritance

A report published in April 2021 by the Institute for Fiscal Studies, Inheritances and Inequality Over the Life Cycle: What Will They Mean for Younger Generations?, highlights that inheritances have been growing as a share of national income in the UK since the 1970s. Key findings from the report are:

  • inheritances are likely to be larger compared with lifetime incomes for younger generations than for their predecessors (projected to be 9% of household income for those born in the 1960s, rising to 16% for those born in the 1980s);
  • while inheritances are set to be larger for those with higher incomes, inheritances as a percentage of lifetime income look likely to be similar, on average, for low- and high-income households;
  • inheritances are set to be increasingly important in increasing inequalities between those with richer and poorer parents, reducing social mobility;
  • while inheritances are likely to have their biggest effect on living standards later in life, once they are received, the anticipation of future inheritances may have consequences for outcomes today;
  • as those with higher incomes are more likely to be able or willing to reduce the amount that they save in anticipation of inheriting, they likely see a larger effect on their living standards today; and
  • the growth of inheritances means that policies that successfully redistribute them would have larger effects on inequality and social mobility for later-born generations.

Even if the proportion of estates subject to IHT grows as a result of freezing IHT bands, this policy alone is unlikely to have any significant effect on inequality and social mobility. Given that higher value estates have more assets benefiting from BPR and APR, freezing the bands combined with increasing house prices means that the effect is more likely to be felt by those further down the wealth distribution.

The Organisation for Economic Co-operation and Development (OECD) has also been considering this issue. Inheritance Taxation in OECD Countries, released on 11 May 2021, provides a comparative assessment of inheritance taxation across OECD countries and explores the role that inheritance, estate and gift taxes could play in raising revenues, addressing inequalities and improving efficiency in the future.

Will IHT be substantially reformed?

Predictions in advance of Budget 2021 had IHT reform high on the list. In its report, Tax after Coronavirus, published on 1 March 2021, the Treasury Select Committee stated that, “Based on evidence to the Committee, we believe that there is a compelling case for the reform of capital taxes.” The committee reported that it awaits, with interest, the government’s response to the OTS reports on both IHT and capital gains tax.

To date, the only announcement related to the OTS IHT reports has concerned a welcome reduction in IHT reporting requirements to take effect from 1 January 2022. Announced on ‘Tax Day’ on 23 March 2021, reporting regulations will be simplified later this year with the aim that 90% of non-taxpaying estates each year will no longer have to complete IHT forms when probate or confirmation is required. However, even this falls short of the key recommendations from the first OTS report on IHT recommending that the government implements a fully integrated digital system for IHT.

The recent OECD report highlights that the COVID-19 crisis will likely place countries under greater pressure to raise more revenues and address inequalities. The report considers that well-designed inheritance taxes can raise revenue and enhance equity at lower efficiency and administrative costs than other alternatives. It also suggests ways to help address the political obstacles often associated with IHT reform.

The OECD report considers that IHT levied on recipients is more equitable than a tax levied on donors’ estates – the UK is one of only three OECD countries that levies IHT on the donor’s overall estate. It states, “a particularly fair and efficient approach would consist of taxing beneficiaries on the gifts and bequests they receive over their life through a tax on lifetime wealth transfers”, but acknowledges that this would be reliant on the accuracy of recording gifts. It also suggests that recipients should be allowed a tax-free amount and progressive rates would enhance equity and redistributive effects.

Recognising that reliefs for business assets are provided to ensure business continuity, the OECD report highlights that exemptions or reliefs should be carefully designed and alternatives could be considered. This includes capping reliefs, means testing and lower IHT rates for business assets combined with payment by instalment.

The OECD report also considers another issue picked up by the OTS review, namely the step-up in capital gains base cost when an asset is inherited. It suggests taxing unrealised gains combined with flexible payment or deferral arrangements.

If IHT reform is on the government’s agenda, there is certainly plenty of research, material and suggestions on how the UK regime could evolve. It needs to be considered in the round with other taxes on personal wealth and funding the cost of social care.

About the author

Lindsey Wicks, Technical Editor, Tax Faculty