Inherent Dilemma On Levying Inheritance Taxes
Tax rules should incorporate an explicit regime to recognise family trusts and permit their legitimate usage to plan for inheritance tax.
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It is usual for taxpayers to expect monetary concessions each time a union budget is announced. Perhaps, the other common expectation is to have greater degree of certainty in tax laws. Speaking about certainty, taxes are inevitable and often referred to as the only certainty like death. Now, there is a kind of tax on death itself. Such death tax can be on the estate (estate tax) or the inheritor (inheritance tax).
When it comes to measuring inequality in the world, India ranks second. There is a school of thought that advocates tax policy for death taxes to reduce inequality of income. The gap between the richest people in our society and everyone else is unfortunately on the rise and has severe social ramifications. Thus, the moot question is, can this gap be bridged by tax policy and estate tax? which perhaps can not only raise revenue but also redistribute wealth.
We had a regime of estate tax between 1953 to 1985. One of the important factors that led to its failure was lower yield compared to cost of administration. We also had the gift tax between 1958 and 1988 to tax gifts received from non-relatives, this tax also got abolished in 1988 and in 2004, the concept to tax gifts was again introduced as part of the Income Tax Act.
Presently, there is an exemption without any monetary thresholds for receipts of gifts from relatives. The income tax law also specifically provides an exclusion for transfer of asset under a will or inheritance from the purview of gift taxation and capital gain tax. Furthermore, with the abolition of wealth tax and specific amendments in 2017 exempting transfer of assets to family trusts, the government has tacitly allowed ample taxpayers to plan their affairs and wealth ownership. Currently, a higher surcharge rate for taxpayers earning income more than INR 1 crore and an additional 10% tax on tax free dividend incomes exceeding INR 10 lacs, are some of the measures targeting the rich with progressive taxation. An estate tax would likely be enforced on the same target audience.
Conversely, the risk with introducing estate taxes is that it can potentially reduce wealth accumulation and induce aggressive tax avoidance strategies. It is natural that such levy will attract hostility because it will be imposed at a time of sorrow and on the assets on which the deceased had already paid tax, a kind of double taxation. Estate taxes can also cause a forced sale of businesses or assets. Nevertheless, it remains as a tax policy tool to address the glaring income inequalities in India and if at all introduced needs to be customised to address the social and cultural requirements of Indians. A few recommendations would be for a sufficiently high threshold that is meaningful in the present context and does not disincentivise wealth creation. The rate should be moderate to ensure that there is no widespread evasion. Moreover, inheritors should be allowed enough time to pay the tax gradually so that there are no distress sales of assets or businesses. Finally, the tax rules should incorporate an explicit regime to recognise family trusts and permit their legitimate usage to plan for inheritance tax.
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