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Inverse relationship between GDP and IHT receipts means higher IHT could hurt economic growth

Journalist: John Choong (Head of Markets and Research), Newspage

ended 06. September 2024

Amongst the list of areas in which new Chancellor Rachel Reeves is looking to launch a tax attack on, inheritance tax (IHT) looks to be one of her main targets. The Chancellor disclosed that there’s a £22bn “black hole” in the nation’s finances and is looking for ways to shore up funds via tax revenues to fill the gap. However, questions remain as to whether taxing inheritance has brought about any growth to begin with.

Research from Newspage found that GDP (output) and IHT have an inverse relationship. The general trends show that the GDP-to-IHT ratio has fallen steadily over the years. In other words, as inheritance tax receipts have gone up, the amount of output per £1 of inheritance taxed has reduced over the years.

Nonetheless, what’s more interesting, is that when IHT receipts dropped following the global financial crisis, the GDP-to-IHT ratio increased. This suggests that taxing inheritance is an extremely inefficient way to grow the economy, as the amount of growth doesn’t warrant the large amount taxed.

IHT receipts only seem to have grown larger, however. In the period between April 2024 to July 2024, IHT receipts have surged to £2.8bn, approximately £200m higher than the same period last year. 

But with Reeves looking to potentially include pensions in the scope of inheritance tax, many people who previously would not have faced such a liability may suddenly find themselves with a serious inheritance tax problem.

Newspage asked economists, IFAs, and experts for their views on whether the trends shown can be attributed to other economic factors, how changes to IFT could affect wealth distribution and economic growth, and alternative tax structures.

6 responses from the Newspage community

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Gabriel McKeown
Head of Macroeconomics at Sad Rabbit Investments
By targeting IHT reform in the hope of finding a fiscal goldmine, the government may be about to open Pandora's box. Historical data suggests a complex relationship between IHT receipts and economic growth, making any reforms akin to ‘robbing Peter to pay Paul’. Furthermore, the impact on wealth inequality could be disastrous, as currently the wealthiest estates benefit disproportionately from exemptions and reliefs, making any reform ineffective as wealth disparities are already entrenched. While expanding IHT may seem like an attractive short-term solution, its historical inefficiencies suggest that broader tax reforms could offer more sustainable economic benefits. Consequently, these reforms will be the first real test of the government’s ability to navigate complex fiscal waters. With IHT tax reforms on the horizon, the nation waits with bated breath, hoping Chancellor Reeves is not just rearranging deck chairs on the Titanic but steering the ship to calmer seas.
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Anita Wright
Independent Financial Adviser at Bolton James Ltd
The inverse relationship between IHT and GDP could be down to broader economic trends — an aging population leading to more estates being subject to IHT, or rising property values pushing more estates above the tax threshold. Additionally, economic uncertainty might lead people to delay or avoid tax planning, inadvertently increasing their tax burden. Bringing pensions into the scope for IHT charges would be a radical move and one that would not be easy to implement. Currently, pension capital is held within trusts and are therefore not deemed to be owned by the policyholder, but by the trustees. As such, it doesn’t form part of the value of their estate on death. I have many clients who use their pensions more as inheritance tax planning vehicles than retirement vehicles. Given the observed inverse relationship between IHT receipts and GDP growth, reforming IHT with a wealth tax, annual capital taxes, or a more progressive income tax system could provide a more stable revenue stream.
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Paula Steele
Director at John Lamb Hill Oldridge
IHT is increasingly paid by mid-level estates, as very large estates are able to plan and avoid the long-term impacts of IHT. If Reeves decides to follow through with an IHT hike, then the amount of wealth inherited by mid-level households will fall and reduce the UK's wealth distribution. Social mobility is largely driven through individuals from school age through to age 40. After that, mobility begins to slide off. As under 40s aren't the main recipients of estates, I am not sure the argument about social mobility can be made either. If the government wishes to increase revenue and is finding that increases in SMEs (the drivers of growth) are the cause of this and are largely the beneficiaries from business asset relief, then abolishing or reducing the amount of business asset relief (BAR) is likely to increase revenue. The existence of BAR does impact on how assets are held, preventing businesses from being quoted or sold so that the relief can be maintained for estates.
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Riz Malik
Independent Financial Adviser at R3 Wealth
Increasing inheritance tax will likely prompt more individuals to seek ways to structure their estates to minimise the tax burden. Similarly, any substantial hikes in capital gains tax could lead to people deferring their gains to reduce their tax liability. If the goal is to boost tax revenue, the Chancellor may find it more effective to introduce smaller increases across several tax areas rather than making significant changes to just a few.
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John Choong
Head of Equities and Markets at Investors Edge
The inverse relationship between IHT and the GDP-to-IHT ratio is just the tip of the iceberg in this fiscal horror story. Since 2001, debt-to-GDP has ballooned by a staggering 70%, with government debt skyrocketing 556%. Meanwhile, GDP has merely doubled to £2.67trn. It seems the more we tax the dead, the more our economy resembles a zombie. IHT was meant to "tax the rich" and redistribute wealth, but Joe Public isn't feeling the trickle-down effect. Instead, it's stifling potential reinvestment that could turbocharge economic growth far more efficiently than public coffers. Perhaps lower taxes, coupled with a reality check on public sector pay rises amidst stagnant output, could be the silver bullet. By fostering economic growth, we might just raise more tax revenue than by pick-pocketing the deceased.
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Colin Low
Managing Director at Kingsfleet
IHT is a method of wealth distribution, but it is a very blunt tool. It does not distinguish between estates where the deceased built up their wealth from hard work and entrepreneurship, or those who died having lived off inherited family wealth. The tax is not hypothecated to expenditure which redistributes wealth, it simply goes to general expenditure that includes defence, health and debt interest. There needs to be increased incentives for the wealthy to support local charities to redistribute wealth in their locality using existing Community Foundations rather than falling to central government.