Inheritance: Are Ireland's fortunate class paying their fair share?

Inheritance is a very emotive issue in Ireland. Families go to great lengths to ensure they can provide for the next generations – sometimes, depressingly, at the cost of a reasonable standard of living in their own latter days.

And tinkering with inheritance rights is considered a political red flag: the only time in recent history that the rules were made less accommodating was in the aftermath of the financial crash.

But is our system of inheritance fair at all or is it simply enhancing the wealth of those who already have at the expense of those who have not? That is a question that has been exercising economists at the Organisation for Economic Co-operation and Development (OECD), a group that sees its focus as “promoting policies to improve the economic and social wellbeing of people worldwide”.

In a report published on Tuesday, the OECD examines how inheritance is provided for and taxed in its 37 member states.

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The report finds that inheritance tax can play an important role in raising revenues, addressing inequalities of opportunity and wealth, and improving efficiency in OECD countries. The key word there is “can”. Much of the report examines how that is not happening.

In 2018, only 0.5 per cent of total tax revenues were sourced from these taxes on average across the countries that levied them, according to the report.

In Ireland, the figures are slightly better but not a lot. Last year, the State received €505 million in capital acquisitions tax – the formal name for tax on inheritance and large gifts here.

That was just under 0.9 per cent of the €56.2 billion that was collected in a year when tax returns were down due to the general economic turmoil.

This is all the more topical in a world coming to grips with the cost of Covid-19. For the past year or more, the focus has, understandably, been on keeping the economy and its workers on some form of financial life support as scientists battle to find a cure or a vaccine for a deadly global pandemic. But things are changing.

Government revenue

Ireland this week took the biggest step to date in reopening its economy. The hope is that with an accelerating programme of vaccination, a focus on outdoor social activity and a little common sense, we can avoid a further wave of infection and any further economic dislocation.

However, borrowing has increased dramatically to meet the exceptional bills of the last 15 months and the Government, like others, will be looking to get its books back in order.

Some of that will come from the buoyancy of a general economic uplift but it would be strange if governments, like business, were not to take this chance to assess whether new approaches are required to raise additional revenue and fund future spending.

Less-well-off families are not as likely to inherit by a wide margin and, where they do, the sums involved will be much lower

Ireland has a tax system that is generally seen as progressive by international standards. Those who have are, by design, taxed more than those who have less. Inheritance is something of an exception. Much of the wealth passed between generations is not taxed at all as it avails of various exemptions.

Politically, this is seen as a sacred cow, but should it be? It’s not as though everyone benefits. The OECD report states that the gap in Ireland between those who are likely to inherit and those who are not is the highest of all the countries surveyed. About 60 per cent of the wealthiest Irish families will pass wealth via inheritance from one generation to the next. Among the poorest families, that figure is just one in 10.

Less-well-off families are not as likely to inherit by a wide margin and, where they do, the sums involved will be much lower. And because they are poorer, they are more likely to spend that wealth themselves where wealthier families do not need the money for living expenses and so can save or invest it to further widen the wealth gap in society.

Ensuring that those who inherit – especially those who inherit large sums – pay reasonable tax on money they have done nothing to earn except through accident of birth makes sense in wider social and economic terms.

Lifetime limits

It’s not all bad news. Comparing the situation here with the recommendations made by the OECD in its report, Ireland gets a mixed score card.

Unlike one-third of OECD states, we do actually tax inheritance in some form. And, in line with best practice, we tax beneficiaries.

Even better, alone among our OECD peers, our structure of lifetime limits on the amount you can receive before being taxed is seen as a model that others should follow. Kudos, too, from the OECD for making large gifts (over €3,000 in value) received during someone’s lifetime subject to the same regime and the same lifetime threshold.

But we don’t escape criticism. The tiered nature of our thresholds – where a person can receive more free of tax from parents or close relatives than from others – may be inevitable if economically impure in the OECD’s eyes. However, the sheer scale of the exemption for a child on wealth handed over by parents – €335,000 – is over 10 times that for other close relatives and over 20 times the €16,250 limit open to more distant relations or friends.

That gap is one of the largest among all OECD states and is clearly seen as too extreme.

The preferential tax treatment of pensions and life policies in inheritance is also seen as excessive, given that both are already favourably treated for tax during the person’s lifetime. The practice of capital gains dying with an owner is also seen as inimical to liquidity and adding icing to an already sweet cake for those who inherit.

And there is a general concern about tax avoidance and about the use to businesses to pass on private wealth to the next generation.

None of these are purely Irish concerns but they are relevant here.

Ireland’s system of inheritance is not the most generous across the OECD but it is, in certain respects, the most lopsided. The OECD is careful not to prescribe a one-size-fits-all approach on taxing inheritance but it does state squarely that the current system largely perpetuates and even exacerbates a trend to wealth inequality.