IHT – the ultimate wealth tax

In my previous update I mentioned that I would explore some of the Personal Finance implications of a shift of emphasis away from the taxation of income and towards taxing assets and wealth. The ultimate wealth tax is the Inheritance Tax, or IHT for short. A few years ago IHT was commonly regarded as being “voluntary”, inasmuch as it was generally perceived as being pretty easy to avoid. The great and the good could employ various trust or business-related strategies to avoid the worst ravages of this attempt to take a second bite out of a lifetime of taxable earnings. Most of the rest of us were unaffected as the thresholds were proportionally higher in real terms.

Things aren’t as straightforward anymore. While the Conservatives pledged to raise the inheritance tax threshold to £1 million, the promise has gone the way of many political sweet nothings and the current £325,000 threshold has been frozen until at least 2018/2019.

IHT revenues have been rising steadily, bringing in £3.4 billion last year, an increase of around 10% on the previous year’s take.

The frozen threshold, and rising house prices, mean that more and more estates are falling into the clutches of the tax. At the same time HMRC is seeking to limit the extent to which trusts can be employed to circumvent the tax.

What this is likely to mean is that the only effective tool for limiting the vulnerability of your estate to inheritance tax is to give away your assets while you are still alive. Even this is not entirely straight-forward because a) it simply passes on the problem to a future generation and b) while you might avoid IHT, there are often capital gains tax implications when assets are given away or sold.

All of this will require detailed (and expensive) financial advice with considerably less scope for your advisors to come up with something “special”.

One possible consequence though is that it will provide an additional incentive for people to downsize their homes in good time, while also keeping a more careful eye on the capital gains implications of any investments they might have.

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A step closer to higher UK interest rates

This morning it emerged that two members of the Bank of England’s Monetary Policy Committee voted for an increase in interest rates at August’s meeting.

A bit of background first.  Base rates have been at a record low of 0.50% for more than five years.  Immediately before the crisis began in 2008, the base rate stood at 5.75%.  Those of us with a few more miles on the clock will vividly remember base rates of 14.875% or even 17%.

With unemployment falling fast and UK growth the strongest in the developed world, ordinarily interest rates would be considerably higher than they are currently.

A large part of the reason why rates haven’t already risen is that wage growth remains subdued, barely matching inflation.  As a consequence, in real terms (i.e. adjusted for inflation), many workers have yet to feel the benefit of the economic revival.

However, many of those who had mortgages prior to the crisis have been able to refinance at significantly lower rates, often saving themselves hundreds of pounds a month in the process.  If you were also fortunate enough to live in the South East, you’ve very likely benefitted from considerable appreciation in the value of your property.

This begins to get to the heart of why current policies are unsustainable over the longer term.  Those with assets and access to credit have generally done very well.  Those without either have found things pretty tough.

You only have to read the comment sections in even the higher brow newspapers to appreciate the disaffection this has caused.

The upshot is that it is inevitable that policy will shift from monetary stimulus, which favours those with assets and credit, to fiscal measures that attempt to capture a portion of that action for the Treasury.  The idea being that budgets can be balanced by increasing taxation on assets perceived to be less economically productive, such as property.

The political attraction of taxing assets and wealth is immense, especially if it also allows governments to lift the peddle on austerity and/or cut rates of basic income tax.

We’ve already seen significant increases in top-end property stamp duty, whilst the proposed Mansion Tax is merely the thin end of a wedge which will herald the biggest change in taxation policy in a generation.  Promised increases in the inheritance tax threshold have also gone by the wayside.

From a personal finance perspective it is very likely that the costs associated with property ownership will increase significantly and these will need to be covered in retirement.  Equally tax planning will become both more important, and also more difficult to achieve.

In my next few updates I’ll explore some of the personal financial issues raised by this brave new world.  In the meantime though:

Take care out there

PensionMan

 

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