A possible solution to wealth inequality
Wealth, and by that, I mean capital (as opposed to income), is not equitably distributed in many western societies. What is more; the gap between the rich and the poor is widening. In his book, Capital in the 21st Century, Thomas Piketty provides a worrying glimpse into the future if the rate of acceleration of capital inequality is not robustly addressed. He argues that the rate of return on capital outstrips the rate of economic growth; widening inequality. Whether I agree with Piketty’s interpretation of the data, or indeed the sources of that data, is beyond the scope of this blog. To read on, you must accept the assumption that his assessment is, broadly, correct.
There are many taxes on capital, directly and indirectly. Directly, capital gains are taxed. Indirectly, there are taxes on the return on capital (such as dividend income from stock ownership), which limit the rate of accumulation of capital, by reducing the absolute amount that can be re-invested and subsequently compounded. There are many more examples of taxes on capital. However, I wish to deal with one: inheritance tax.
Inheritance tax (“IHT”) is a sore subject for many. People are uneasy about having their estate taxed before it can be bequeathed to their heirs: after all, they have spent a lifetime paying a myriad of taxes in the process of accumulating their capital. In the UK, above the exemption threshold, IHT is currently 40%. I am about to argue that this figure is probably less than half what it should be.
If you are the type of person who is unable to exercise some control over their own dissonance, I suggest you stop reading — this short blog will only make you cross. Further, I am not making any argument for or against being rich. Neither do I give any consideration to adjusting the threshold, below which IHT is not payable for spouses. Of course, you don’t have to agree with anything I am about to say, but it would be wise to read on with a detached, impartial eye, before passing judgment.
Now, let us consider two cases in turn: the death of an average person, the everyman if you will, and the death of a rather more fortunate one, maybe a billionaire like Warren Buffet.
In 2014, the law firm Irwin Mitchell produced the results of a study, which claims the average net worth of a UK household to be £147,000. The study itself was poorly designed, being only 2,000 people, most of whom were aged 25-45, but it is useful nevertheless. Let’s double that figure, to £294,000. This, we will work with as the everyman net worth (capital) upon death. Presently, this is below the exemption threshold to engage IHT (£325,000) for an individual, and extremely remote from the combined spousal threshold of £650,000. In other words, the rate of IHT for the everyman’s inheritors is of little consequence.
But what of Warren Buffett?
Above this £100k tax-free limit, IHT should be 90%. Yes, ninety percent.
Yes, he is an American; resident and therefore taxed in the United States. I chose him simply because he is very famous. If you are reading a blog on wealth inequality, you have undoubtedly heard of him, as opposed to, say, Lakshmi Mittal, the billionaire Indian steel magnate, living (and thus taxed) in London.
Warren Buffett is a man I admire. A lot. He is worth $73bn (something like £60bn). He is also doing something quite extraordinary and selfless in the extreme: he is giving 99% of his net worth away, and in the majority, this will be to the Bill and Melinda Gates Foundation. But, as we know, most wealthy people (especially the mega-rich) do not share Buffett’s sense of social duty and fair play. They bequeath vast wealth to their children, in most cases, or give those children very substantial shareholdings in companies and trusts, which is pretty much the same thing.
My proposed solution is a two-pronged attack on lasting and compounding inequality. In part, it was inspired by Buffett’s famous comment, “I want to give my kids just enough so that they would feel that they could do anything, but not so much that they would feel like doing nothing“.
First, I propose that the IHT-free limit for anyone who is not a spouse is, per person, £100k. I’m say “not a spouse” because I don’t personally align with the government’s view that a spouse should have to drastically alter his/her lifestyle just because (especially because!) the love of their life has passed away. Back to the £100k: There isn’t any dream that cannot be chased with this much money.
It is enough for a house deposit in almost any neighbourhood. It can put a person through university several times over. It can pay for the private education fees of the inheritor’s children. It can provide a travelling experience unrivalled by anything I can think of. It can fund the launch of a businesses. In short, £100k is, to use Buffett’s words, “enough”. Second, above this £100k tax-free limit, IHT should be 90%. Yes, ninety percent.
Why?
To ensure that there is powerful enough incentive to re-distribute wealth. If there’s one thing that we all hate more than giving money away, it’s giving it to the tax man.
What would this do?
Can you think of a better way to improve the lives of 600,000 people than giving them £100k tax-free? And that’s just on the death of a single billionaire
It would encourage people to give their children advice, rather than just money. It would also mean that in the case of Buffett, he would have to find or nominate fully 600,000 people that he would like to receive, IHT-free, £100k. His alternative, in this paradigm, would be to leave his wealth to a charity or foundation, or have his heirs pay a 90% tax rate on the receipt of their inheritance above £100k. No trusts. No holding companies. No legal bullshit. You either comply with the rules or hand 90% over to the government, for them to re distribute at their discretion (via benefits and improvements to services for the less well-off).
Can you think of a better way to improve the lives of 600,000 people than giving them £100k tax-free? And that’s just on the death of a single billionaire. What about the cumulative wealth of say, the 62 richest people on the planet dying? They have a combined net worth, per a 2016 Forbes report, of $5.6 trillion (which is almost as much as the combined wealth of the poorest 3.5bn people on the planet).
That is enough wealth to give £100k, tax-free, to 56 million people. It’s not going to solve world-poverty, and certainly not overnight, but then again, we are only talking about the richest 62 people on the planet here. Forbes also cites that there is something like 1,800 billionaires alive today. There are also at a conservative estimate, 15 million, millionaires. Imagine if they were all forced to do the same. And then imagine if everyone was. Right down to you and me.
I’d love to hear what you think, so leave a comment below this post, or share it!
-R.
Excluding the super rich for a moment, a low rate of IHT encourages people to save for their old age safe in the knowledge that they have money for a rainy day, but if that rainy day doesn’t happen, then all is not lost as their heirs can enjoy the money.
If IHT is set at a very high rate, then that discourages saving and encourages spending (“I don’t want the tax man getting my money”), which ultimately puts a burden on the taxpayer to help out if the rainy day happens.
Hi David
I get what you say.
However, in my ‘paradigm’, there is no limit to the amount you can pass on, while paying zero IHT. Provided of course, that you are prepared to leave it to X people in £100k tranches. Thus the disincentive you cite doesn’t exist…
Also, I think that incentives for saving should be via lowering/eliminating taxes on that saving (allowing wealth within one’s lifetime to accumulate faster), such as ISAs and SIPPs, etc.
Knowing how short-term people’s financial thinking and motivations are these days, I’m not sure I can agree with you that a low IHT rate is a strong enough incentive for people to save.
Thanks for your comment, though!
R
> Knowing how short-term people’s financial thinking and motivations are these days, I’m not sure I can agree with you that a low IHT rate is a strong enough incentive for people to save.
I think that depends upon your age. Once you hit late middle age, especially if you have kids, your financial perspective changes, but I think the whole IHT situation need to be further interwoven with elderly care i.e if a couple/grown up child move in with their elderly parents, to look after them in old age, this has a huge benefit for society – both lowering the number of houses required and removing a burden from the social care network etc. If they’re prepared to do this (and experience tells me it is a huge sacrifice), then maybe society should repay that sacrifice with revised (lower) IHT.
I don’t agree re. age. Some of the most financially-prudent people I know are in their 30s. And some of the most reckless (particularly pre-crash) are well into their 50s and 60s. I think your financial stability has a lot to do with your experiences, environment, and attitude to risk, not your age.
However, what you say about making sacrifices is salient. You give and you get back – that’s fair, and how societies *should* work.
> Provided of course, that you are prepared to leave it to X people in £100k tranches. Thus the disincentive you cite doesn’t exist…
Of course that assumes that the super rich really have this money, whereas in reality it’s isolated in companies, trusts etc, so they don’t really “own” it in the way you or I own our house, they just have exclusive use of the assets.
Again, I don’t agree.
Assets (including privately-held company shareholdings) can be leveraged or sold to pay IHT now. Why should altering the tax-rate make this any different?
Re trusts, which are the only point of difference, I would — ideally — find a way of scrapping them. Naturally, this is wishful thinking (and even if it did have some political and public appetite, it would be very much easier said than done).
It’s an interesting idea. I am fundamentally opposed to IHT, on a moral basis, but it would certainly stimulate the economy if you basically had to spend all but your last £100k (well, £100k x how many people you actually want to give such a sum of money). It would benefit charities, but then gifts to charities are tax free as it stands. Imagine people with cancer diagnoses rushing out to spend their millions or risk having it all nicked.
I agree that wealth should not be completely static in a healthy society, but I think some sort of regulation on businesses/underlying assets might be a better strategy than enforced redistribution. Wealth accumulates in a small number of hands, and it seems that this is just its natural trajectory. What we can do is to make sure that, through measures such as a proper carbon credit market, land value tax, proper worker safety/welfare regulations etc people who are in control of an asset, be it a trading business or a residential rental property, are constrained to some extent in how much they can use their wealth/position.
Let’s take a really, really controversial example of concentration of wealth: land ownership in the UK. We, as a culture, fetishise land ownership, property ownership and all of that stuff- compared to say Germans, who seem happy to rent their home regardless of their income. Why? I’m not entirely sure, though I suspect our 1,000 years of relative stability as a country has a lot to do with why we like to own our homes. Actually, until fairly recently an awful lot of people lived in council houses. There was really nothing wrong with this. The houses were rented at, I believe, a reasonable rent, which was low enough to ensure that people could afford it on low wages and that they had disposable income to spend in local businesses. Now, we have a situation where most renting is in the private sector, there are no rent controls anymore (not to speak of, there are a few sitting tenants left) and a lot of political ‘heat’ around how expensive renting is and how much damage this is doing to society. I agree, it is not a good thing to have someone earning £2k a month and having to spend £850 on rent, more on bills and then have little left over to spend in restaurants/bars etc to keep other locals in work. The idea that the only solution to this is to build more gov’t owned housing may not be incorrect, but the actual problem is how much people are having to pay in rent, not who they are paying it to.
If the average house only cost £350 a month to rent, society would be better off and it really would not matter a jot whether we had 100,000 landlords with 5 houses each, or one multibillionaire with a portfolio of 500,000 houses- so, my point is, the problem is not concentration of wealth, it is extreme free marketeers permitting abuses by those with economic power, and it is also our leverage based method of doing business (whether the humble buy to let landlord, or the mighty private equity fund) which encourages simply buying an asset and squeezing every last penny out of it at whatever cost over actually innovating or providing a good service. The problem, in short, is not how many houses/shares/acres of farmland someone owns, or chooses to pass on to their offspring.
I do view leaving money to the next generation as another form of spending, more or less. I look at my own grandparents, they retired respectably well off (probably £300-500k in shares, decent suburban house, pensions etc- not rich but well off); they never chose to go on cruises, to buy classic cars or to do any of these sort of indulgent, decadent things. They want to set up the next generation, and the one after that- that was their right, with the money they had earned and paid tax on. Anyway, in terms of IHT preventing money accumulating in too few hands, I’d say two things, or rather I’d point to two famous quotes- “Rags to riches to rags in three generations”, and to a slogan from, I believe, an old British Airways advert, “If you don’t fly business class…your kids will”. A few Dukes and Rothschilds aside, instances of real family fortunes surviving more than a few generations intact are vanishingly rare- people tend to pass on privilege in other ways, such as simply sending their kids to the right schools to meet the right people to get the right jobs, and that is much harder to police than the stuff which comes out of probate.
What is the difference, for society and the economy, between Fred Bloggs Snr (Mr Hardwork) spending money on vapid consumables and his heir, Fred Bloggs Jr (Mr Playboy), doing it a few years later? The answer is that there is no difference, money gets spent on whatever, people are employed by this process and the cycle goes on. So all of this leads me to the regrettable conclusion that a lot of support for IHT (not in the author’s case, he has his arguments and they are well thought out) is just about pure jealousy, spite and malice. There is a core of nasty, bitter people who take the view, “I was never handed anything, why should anyone else be?” they’re the same type of people who scratch nice cars. It’s nothing to do with economic health, it is everything to do with a crab bucket mentality of trying to drag everyone down to one’s own, pathetic level.