Inheritance Tax Review – second report from Office of Tax Simplification

 In Gill's Blog, Tax

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The Office of Tax Simplification (OTS) was tasked by the Chancellor of the Exchequer in January 2018 to review a wide range of administrative and technical aspects of inheritance tax (IHT). The first report published in November 2018 covered the administrative aspects of IHT. This second report explores the main complexities and technical issues and can be found at

Gill Steel - Solicitor, Trainer in Wills Probate Trust TaxI was pleased to provide challenge, support and debate as a member of the consultative committee.


Recommendations cover three key areas – lifetime gifts, interaction with capital gains tax (CGT) and Businesses and Farms. Throughout, interesting data is shared obtained from a huge response from the public (over 3,000 responses to an online survey) and government data particularly from HMRC.

Structure & Layout

There is a useful Executive Summary followed by 12 chapters and five appendices.

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There are chapters on:

  1. Lifetime gifts and exemptions – the fact that the exemptions had not been increased for years and are poorly understood which was one reason why lifetime gifts are often low for most people – apparently 65% of those surveyed had given less than £5,000 in the previous two years.

Whilst we know that the nil rate band (NRB) has been frozen since 6 April 2009, did you know that the annual exemption has been frozen at £3,000 since 1981, the small gifts exemption has been £250 since 1980 and the gifts on marriage/civil partnership exemption has not changed since 1975!

There is informative data included about the use made of the normal expenditure out of income exemption and commentary about the impracticality of record-keeping in order to secure this exemption.

It is therefore welcome that the recommendations are to have a single annual gift allowance of a larger sum than £3,000, without a roll-over of one year, to simplify and improve lifetime giving; retain the small gifts allowance to help executors and increase it to reflect inflation e.g. to £1,000 and reform or replace the normal expenditure out of income exemption. To reform it, the suggestion is to remove the need for the expenditure to be regular and to limit the amount of income covered to a fixed percentage of income shown on a person’s tax return. The alternative is to replace it with a higher personal gift allowance e.g. £25,000 which would cover 55% of all normal expenditure out of income claims.

  1. Lifetime gifts – time limits and taper – Practitioners will know that for some estates where the deceased has not kept records it can be difficult to discover and provide evidence of lifetime gifts going back seven years before death and of course impossible to provide reliable data going back 14 years before death. Statistical data is informative – in 2015-16 only 20% of estates recorded lifetime gifts being made in the seven years before death and of hose 54% were made within three years of death. Only £7 million of IHT out of a total £4.38 billion for 2015-16 related to gifts made to individuals more than five years before death.

 It is therefore welcome that the recommendation here is to abolish the 14 year rule and reduce the potentially exempt period from seven to five years.

For balance, as the above will reduce the IHT take in a modest way, the recommendation is to abolish taper relief too since most taxpayers mis-understand how it works and to what it applies. This means that gifts made less than five years before death would be subject to IHT at the full rate meaning that a gift made five years less one day would potentially bear 40% IHT and one made five years plus one day will pay no IHT so simplicity comes at a cost. Hopefully, the NRB would cover it anyway.

  1. Lifetime gifts – payment of IHT and the NRB – first of all we will all be disappointed that the OTS did not recommend abolition of the Residence Nil Rate Band (RNRB) and a substantial increase in the NRB. Instead, the focus was on who bears the IHT on lifetime gifts which become chargeable on death. Unfortunately, the outcome is to recommend what is a switch rather than a simplification. The OTS recommend that any IHT due on lifetime gifts to individuals should be payable by the estate and the NRB should no longer be allocated to lifetime gifts in chronological order but proportionately across the total value of all lifetime gifts. It is hard to understand how this would work in practice when chargeable gifts into trust are made.

Rather than adopt this recommendation let’s hope the Chancellor just focuses on the suggested reform of requiring the executors to pay any IHT due on lifetime gifts out of assets they handle that are due to be distributed to the gift recipient in question only if HMRC has not been able to recover the tax directly from that person.

  1. Interaction with CGT – some respondents to the call for review suggested that IHT should be abolished and replaced with CGT on death. However, the OTS point out that the main potential disadvantage to that would be that many more people would be brought into a charge to tax on death.

The OTS point out that the CGT exemption on death is intended to reflect the impact of IHT but this results in both zero tax situations and double tax situations which they illustrate well, so it is hardly a perfect interaction.

Many respondents to the review indicated that the CGT uplift on death distorts decision-making, causing people to retain valuable assets until death which may be bad for business. The OTS recommend that where a relief (e.g. APR or BPR) or an exemption (spouse exemption) from IHT applies CGT uplift should be removed. The recipient of the gift will be treated as acquiring the assets at the historic base cost of the person who has died.

  1. Businesses & farms – whilst it is recognised that the policy behind providing such important and generous reliefs is to help an existing business continue rather than have to be sold to meet a tax bill on death, nevertheless there are some problematic areas which need to be addressed.

 Abolishing APR & BPR entirely would fund a reduction in the main rate of IHT to 33.7% which is probably not enough for such a draconian measure to be thought worthwhile.

Instead, the OTS concentrate on:

  • Whether it is right that AIM shares benefit from BPR after two years ownership as this is not within the stated policy reason for having BPR
  • Look at the differences between conditions for eligibility for IHT BPR compared to CGT reliefs like hold over and Entrepreneurs’ Relief, where the trading conditions are higher than for IHT – consider whether it is appropriate for the level of trading activity to be lower for IHT than for CGT
  • Compare the use of holding companies and LLPs in holding shares in trading companies – treat both the same
  • Review the IHT treatment of furnished holiday lets in the light of recent cases compared to their treatment for income tax and CGT – align the IHT treatment to the income tax and CGT treatment
  • HMRC’s demand for formal valuations of business assets even where no IHT is due – HMRC should improve their guidance and make it clear when a formal valuation is required and when estimates will suffice
  • The problem of obtaining APR on farm houses where the farmer has to move out to receive care or medical treatment – clearer tests for eligibility are required


  1. Life assurance products and pensions – The OTS reviews the IHT treatment of policies written in trust compared with those that are not and also compares the use of discretionary trusts in the management of defined contribution pension schemes. Consideration was also given to the problem of transfers of value from one type of pension scheme to another and when unexpected liability to IHT can arise.

 Interestingly, the OTS recommends that whether or not term life insurance policies are written in trust they should be made free of IHT on the death of the life assured. They also recommend that the government review the interaction of taxation with pension policies in general.

  1. Anti-avoidance legislation – The OTS observe that the complex rules for Gifts with Reservation of Benefit (GROB) and Pre-owned assets tax (POAT) are not understood by the public. Also, since POAT was introduced the government has brought in DOTAS and GAAR. It is therefore encouraging that the OTS suggest the POAT rules and their interaction with IHT should be reviewed to consider whether they function as intended and are still necessary.
  1. Grossing up – it is acknowledged that grossing up is complicated but necessary and after review the OTS recommends its retention.
  1. Spouse exemption – the issue here was whether s.18 IHTA 1984 should be extended to apply to cohabitants and/or siblings. The OTS felt any such wide reaching change would be part of a wider response to social change and would need to be considered across government not just in relation to IHT.
  1. Residence Nil Rate Band (RNRB) – many respondents of all kinds raised concern about the RNRB and its transfer, in particular the complexity of downsizing. The OTS observes that the RNRB is too complex and people struggle to understand it. Many respondents suggested it would be simpler to abolish it and increase the NRB to £500,000. The OTS were reluctant to unpick a relatively new relief. Various suggestions for simplification were outlined in the text although no recommendation was made which was disappointing.
  1. Trusts – the way in which trusts are affected by IHT was summarised in the text but it was pointed out that HMRC had published a consultation on the taxation of trusts which overlaps. Various issues were commented on for the benefit of the HMRC review and no recommendations were made.
  1. Charities – unsurprisingly it was reported that the general exemption for gifts to charity was well understood but the reduced rate of tax was not being taken up much probably because of its complexity. Suggestions were made for how the reduced rate might be simplified but overall it was felt that it was still too soon to make changes and more time was needed to evaluate it effectiveness.

The Appendices include the scope of the OTS’s work which does in part explain the limited range of change proposals and the omission to abolish the RNRB for example.


The Report contains some useful statistical information and diagrams which practitioners may find helpful in explaining some of the current IHT rules to clients.

Clarity & readability

As you might expect from a document of this nature it is written in plain English and is well structured.

Relevance to practitioners

Practitioners are busy people, dealing with clients matters based on current law and practice. It is therefore not likely that those at the coal face can find time to read consultation documents but if someone in the team can be persuaded to do so it will be beneficial to point towards likely future developments in tax which could change the advice practitioners give to clients. Forewarned is forearmed.

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