'Death and taxes': social justice and the politics of inheritance tax.
| Author | O'Neill, Martin |
| Position | Commentary - Viewpoint essay |
In a letter to his friend Jean-Baptiste Leroy in 1789, Benjamin Franklin famously opined that 'in the world nothing can be said to be certain except death and taxes'. Franklin was surely right about this, just as his judgment was sound in so many other matters:--after all, this was the man who told us that 'beer is living proof that God loves us and wants us to be happy'. But it is astonishing how often passions become enflamed, and good sense goes out the window, when we encounter the heady mix of mortality and tax.
Recent events have borne this out. No matter when the next UK general election is held, inheritance tax (IHT) will be one of the key issues, with Tory plans to raise the IHT threshold from [pounds sterling]300,000 to [pounds sterling]1,000,000 promising to be their most popular single policy. David Cameron and George Osborne have found a policy that resonates with the fears and aspirations of many of their fellow citizens, who hold IHT in suspicion and opprobrium. IHT is seen as a despicable 'death tax', which hits families just when they're down. Moreover, it is seen as especially illegitimate, given that it is a form of 'double taxation' ('why should the government take my money, when they already taxed me when I earned it?'). IHT is viewed as the manifestation of government in its most sinister form: cold and rapacious.
But it is actually quite puzzling as to why IHT has quite such a bad image. It's a fair and progressive form of taxation, that should be popular with both social democrats and free marketeers, for reasons that I'll explain below. Labour should not be at all defensive about IHT and instead should be prepared to proclaim its myriad virtues from the rooftops. Most importantly, Labour certainly should not follow Blairite outrider Stephen Byers's eccentric advocacy of the wholesale abolition (Byers, 2006). Only by making the progressive case for inheritance tax forcefully and in a principled way can social democrats hope to wrest away this issue from the Conservatives.
In this discussion, I want to start by exploring some of the good reasons that exist for resisting the Tory attack on inheritance tax. Next, I will move on to an assessment of the changes made to the structure of UK inheritance tax by Alistair Darling in the Pre-Budget Report of October 2007. Darling's reforms were commonly viewed in the media as no more than a simple smash-and-grab raid on Tory proposals, but I suggest that the truth might be somewhat more complicated than that. Lastly, I want to outline some of the progressive options that exist for reforming inheritance tax, and for moving towards forms of capital taxation that would be more effective in achieving social justice. My overall argument suggests that the use of inheritance tax should be one of the central elements of a strategy for building a fairer society. Progressives and social democrats who want to create social justice need to be prepared to get off the defensive on this issue, and start making the case for IHT.
Why we should stop worrying and learn to love inheritance tax
There are positive and negative reasons favouring IHT, and against any reform which raises IHT thresholds, or otherwise limits the effectiveness of the taxation of wealth as it is transferred from one generation to another. I'll begin with some of the good 'negative' arguments against changes to inheritance tax, before moving on to some of the more substantive positive arguments that should be deployed by the left in support of IHT.
Most people pay nothing (or at any rate not very much ...)
At the current [pounds sterling]300,000 threshold, only the richest 6 per cent of estates pay anything. One common form of misjudgement is that many people who will not be affected IHT nevertheless think that they will be. A striking example of this kind of thinking comes from the US, where the Estate Tax threshold kicks in only at $2,000,000, or for the top 1 per cent of estates. Nevertheless, Bush's attempt at repealing the estate tax enjoyed widespread public support among the less well off. Surveys found that 20 per cent of Americans believed that they were in this top 1 per cent, with a further 20 per cent expecting to come into this bracket in the near future! (See Runciman, 2005; and Graetz and Shapiro, 2005)
Even those who fall within the threshold often don't pay as much as they worry they will. Is Granny worried that her house is now worth [pounds sterling]500,000, and the grandchildren are going to lose out? Well, under current rules, Granny can give them [pounds sterling]3,000 a year each without any tax implications. Short of liquid cash? Then she can release some of the equity in her property with an equity release mortgage. Moreover, given that the first [pounds sterling]300,000 is zero-rated, even if Granny eventually departs leaving an estate valued at, say, [pounds sterling]400,000, the tax liability at the 40 per cent IHT rate is only [pounds sterling]40,000-leaving a generous [pounds sterling]360,000 for the grandchildren. So, even in a case such as this, where an estate does fall within the IHT threshold, the average rate of IHT paid is only 10 per cent across the whole estate. The generous zero-rated band means that, in reality, very few estates pay IHT at anything like the headline marginal rate of 40 per cent. (The effective average tax rate is, for example, only 5.7 per cent for estates that are the same size as the average London house price of approximately [pounds sterling]350,000; and even for estates twice that size, valued at [pounds sterling]700,000 the average effective IHT rate is only 22.8 per cent. Under the pre-2007 IHT regime, the average effective IHT rate is less than one third for all estates up to [pounds sterling]1.8m). The complaint that IHT stops people from 'leaving something to make their descendants lives a bit easier' thus seem rather exaggerated.
Arguments about 'double taxation' are bad arguments
Perhaps the strangest, and yet most pervasive, aspect of opposition to IHT is that many people say that 'double taxation' is intrinsically unfair. But, if this were true, then it would be intrinsically unfair to levy any form of tax on the expenditure of post-tax income. Yet, we pay VAT, fuel taxes, alcohol duty, and stamp duty when we spend our hard-earned cash, without the same kinds of complaints about 'double taxation'. The way in which IHT is singled out as involving some illegitimate form of 'double taxation' therefore involves an oddly unmotivated exercise in selective attention.
There are other means of responding to 'double taxation' arguments against IHT. Firstly, one can point to the fact that, for most people, the element in their estate that will cause that estate to attract IHT after their deaths is the value of their house. For many people in the UK, their homes have increased massively in value due to the rampant inflation in house prices over the past twenty years. But this windfall increase in wealth has not, in...
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