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The UK could raise more revenue from inheritance tax and make the system fairer by adopting measures successfully implemented in other countries, according to a report by think-tank Demos.
Research, seen by the Financial Times and due to be published this week, found the UK raised less from inheritance and gift taxes than all but one of the G7 countries that tax inheritance or gifts.
The new Labour government, which is thought to be considering changes to inheritance and capital gains taxes, should take the opportunity to reform the rules on transferring wealth, said Dan Goss, senior researcher at Demos.
“Inheritance tax is definitely the right place to start if the new government is looking to unlock a lot more funds to support its aim for a decade of renewal,” he said.
“Inheritance is becoming increasingly more important and valuable. Doing the reforms now could make a big difference to the country without making much difference to most people.”
Demos’s analysis of OECD data found that only 3.7 per cent of deaths in the UK in 2020-2021 resulted in an inheritance tax charge. This compares with 6.4 per cent of deaths in South Korea and 9.3 per cent of deaths in Japan.
The UK raised less from inheritance and gift taxes in 2022 than the US, Japan, France or Germany. Of the G7 members, it only raised more than Italy — which charges a standard rate of just 3 per cent compared with the UK’s 40 per cent — and Canada, which no longer taxes inheritance or gifts.
The report estimated that if the UK taxed the same proportion of inheritance and gifts as France, it would have raised an extra £680mn in 2019-20, while if it taxed the same proportion as South Korea did in 2022, it would have raised about £14.1bn in 2019-20, £9bn more than the £5.1bn that was actually raised.
The report, titled “The Future of Inheritance Tax”, does not make specific recommendations, but sets out several options it considers the “most promising” — which the Labour government could pursue.
These include reforming the current exemption for business property and replacing the current 40 per cent flat rate of inheritance tax with progressive rates of 20, 40 and 45 per cent, for example, with higher rates applied to the most valuable estates.
“There are ways to make [inheritance tax] fairer and raise more money at the same time,” said Goss. “France, South Korea and Japan, they all have marginal rates that go higher than 40 per cent for the top rate. If you can increase the top rate from 40 to 45 per cent, that could enable quite a big rate cut for smaller inheritances of say under £1mn. That’s a key lesson.”
To increase the popularity of any reforms, additional revenue could be earmarked for specific areas — such as social care or homes for the next generation, Demos said.
Another option for reform would be to remove the capital gains uplift, which has been a part of the UK tax system since the 1970s. It allows the person inheriting an asset to acquire it at the market value on the date of death, rather than the amount originally paid for it, therefore any gains made before death go untaxed.
Goss said that some assets such as agricultural property and business assets benefited from “double” tax relief — inheritance tax exemption plus capital gains uplift — adding it would be a “no brainer” to remove the uplift for assets that were exempt from inheritance tax.
Charging capital gains tax on inherited assets across the board could raise £1.6bn a year in 2024-25, according to research by the Institute for Fiscal Studies and the University of Warwick. The Resolution Foundation has estimated the reform would raise £2bn in 2027-28.
Demos’s report found the UK was one of only three OECD countries to offer uncapped 100 per cent inheritance tax relief for owned businesses, alongside Italy and Poland.
