Budget rumours - CGT, IHT and NI set for increases

With less than two weeks until the new Labour government’s first fiscal event, Rachel Reeves is under pressure to find a way to plug the hole in public finances. 

Reports claim the Chancellor has identified a funding gap of £40 billion ahead of the Budget, with the Institute for Fiscal Studies warning that the government would need to raise an additional £25 billion in tax in order to bring spending into line with overall economic growth. 

The Telegraph reports that the Chancellor is set to unveil £35 billion of tax rises at the Budget, which would make it the largest increase in history in cash terms. 

Capital gains tax (CGT)

Changes are widely expected in the tax treatment of ‘carried interest’ (which was in Labour’s manifesto) and in the rates of CGT on some, but not all assets. There may also be changes to reliefs such as Business Asset Disposal Relief.

The latest rumours, as reported in The Times yesterday, suggest that the Chancellor will raise the main rate of CGT (the 10%/20% one covering shares and other assets) by “several percentage points” but will not change the rate for residential property, keeping it at 18%/24%. (This followed earlier comments by Prime Minister Sir Keir Starmer that suggestions of a rise as high as 39% were "wide of the mark".)

There are reports today that Business Asset Disposal Relief will be scrapped. Both Bloomberg and the FT have reported this, the latter saying ‘Whitehall insiders’ have confirmed it. The IFS recently proposed that BADR be replaced by more generous deductions for investment costs. There is no word yet on whether this is what the government plans.

The situation in respect of carried interest is less clear now than it seemed at the election. Back in July Labour’s manifesto made clear that, if elected, the party would tax carried interest as income at the appropriate marginal rate (typically 45% - plus national insurance). It stated: “Private equity is the only industry where performance related pay is treated as capital gains. Labour will close this loophole.” Labour estimated that doing this would raise £565 million a year by 2028-29.

Rachel Reeves clarified during the election campaign (in an interview with the Financial Times) that Labour would exempt fund managers who put their own capital at risk from the change. But she emphasised that most carried interest would still be taxed as income.

However reports last week indicated that the chancellor is looking for a more far-reaching “compromise” on this policy amid warnings that the full advertised change would put the UK’s competitiveness at risk. Quoting ‘government insiders’ the FT suggests private equity managers will not be taxed at the full 45% tax rate on carried interest. Such a compromise would presumably be achieved by simply raising the carried interest rate of CGT by a few percentage points from its current 18%/28% rather than attempting to tax it as income.

Other changes to CGT being discussed – though without any credible rumours so far that they will actually be in the Budget – are expansions in the scope of CGT to include assets held by a person who dies (triggering a CGT charge on death) and, via the introduction of an ‘exit tax’, capturing gains made by people who emigrate from the UK. The IFS suggested both of these in a recent paper. A recent report from CenTax has also argued for an exit tax suggesting a charge should arise through a ‘deemed disposal’ of your assets when you leave the UK (with a revaluation having taken place when you arrived).

Views on raising CGT are predictably polarised. In a report published yesterday (reported here), the Institute for Public Policy Research and campaign group Patriotic Millionaires said interviews with wealthy people suggested most would not be put off investing by a rise in CGT. Separately the Resolution Foundation says Rachel Reeves should raise CGT to as much as 39%.

However in an open letter to the Chancellor (reported here), a coalition of 500 British entrepreneurs has urged against a rise, arguing that such increases could “end up lowering the tax take” and jeopardise the UK’s startup ecosystem. Financial services firm Hargreaves Lansdown is among many saying an increase in CGT could deter investors. 

Inheritance tax (IHT)

The BBC has reported today that the government is planning to increase the amount of money it raises in IHT at the Budget. The Prime Minister and Chancellor are reportedly considering multiple changes to the tax, including changes to exemptions and reliefs. However, the BBC says it does not know what the changes will be.

The most persistent rumours are around restrictions on (or less likely scrapping completely) business and agricultural reliefs. Probably the best-sourced story on this comes from back during the election campaign, when The Guardian highlighted a series of ‘draft documents and expert analyses’ that it said had been worked on during the campaign and circulated among senior officials and shadow ministers. This article suggested that proposals to ‘overhaul inheritance tax’ included capping the benefit from agricultural and business relief at £500,000 for each person. Sources quoted in that article said wider changes were also being considered on gifts and inheritance tax.

Following up the BBC’s reports the FT says that, according to people briefed on the chancellor’s Budget preparations, she is looking at extending the “seven-year rule” to 10 years to make it harder for wealthy people to pass on assets without paying IHT.

The paper reports the same sources as saying that Rachel Reeves has been studying a 2019 report by the Office of Tax Simplification though it notes that the OTS recommended reducing the rule to five years and scrapping taper relief.

That OTS report recommended the removal of the capital gains uplift that currently applies when someone inherits assets (see above), and it questioned the IHT exemption for shares in smaller UK companies listed on the alternative investment market (AIM), something else there has been speculation about. IFS and Demos have recently argued for it to be scrapped though there have also been warnings about a potentially devastating impact on the AIM market.

The FT also notes that, in her 2018 book The Everyday Economy, Reeves criticised IHT loopholes and said the tax needed to be either reset or “shifted wholesale” to a tax on the receipt of any gifts throughout a lifetime. The paper notes that the OTS also put forward reforms in this area though these were about changing the rules on what gifts are allowable (eg. with a higher annual personal gift allowance) rather than a change as radical as Reeves proposed.

Finally there has also been speculation that pension pots may be brought within the scope of IHT. They are currently out of scope although payments derived from them are generally taxable as income if the person who died was 75 or over at the time.

Among the organisations calling for reform of IHT is the Centre for Analysis of Taxation (CenTax) which published a report (reported here) this week suggesting capping of agricultural and business reliefs as well as the spouse exemption, as well as abolition of the residence nil rate band. Arun Advani from CenTax said: “Less than one in five Business Relief claims are for someone who was managing a closely-held business any time in the five years prior to death.”

In the Express, Jon Hickman from BDO has suggested progressive IHT bands might be introduced. 

Employment taxes 

It looks likely that the biggest tax rise of Budget day will be an increase to employer’s national insurance (NI) as ministers from Keir Starmer down have emphasised that Labour's manifesto pledge not to raise NI applied only to employees.

Two main possibilities are being speculated about – either (or potentially even both) a rise in the rate of employer NI from the current 13.8% or applying NI to employer pension contributions (a rumour reported in the Telegraph among others). The IFS says the latter could raise around £17 billion for the Treasury. 

The proposals have drawn criticism from business leaders, who warn it could lead to job losses and wage cuts. Anna Leach, chief economist at the Institute of Directors, stated: "Increasing employers' national insurance would be a bad idea," highlighting that such a hike would increase business costs without considering profitability. 

Shadow chief secretary to the Treasury Laura Trott said such a change would break Labour’s manifesto promise not to increase tax on working people. However, it has been pointed out that the Conservatives criticised Labour in the run-up to the general election for not ruling out the measure.

Additionally it appears the chancellor is planning to extend the freeze on income tax allowances, according to today’s FT. The paper says a further two-year freeze to the thresholds for personal tax would raise about £7bn in 2029-2030, according to the Resolution Foundation. Adding a two year freeze on the starting point for employer NICs would add an extra £1bn in 2029-30.

Back in July it was reported by the Telegraph that higher rate tax relief for pension contributions was under threat. The paper stated that the Chancellor “is expected to consider a proposal [from Treasury officials] for a flat 30 per cent rate of pension tax relief”. However, even then, the paper noted that Reeves was insisting she had “no plans” to change the current regime, and little has been heard on this topic in the months since, leading most analysts to conclude that this will not be in the Budget.

Non-doms 

Uncertainty remains about what changes Labour will make to the proposals to scrap non-dom tax status put forward by the Conservatives at the last Budget.

The Independent reported earlier this month that Reeves could water down Labour’s planned changes amid fears the move would fail to raise any money. The Chancellor had hoped to raise about £1 billion a year by closing what Labour said were loopholes in the Conservatives’ proposals (particularly around use of trusts). However, the suggestion is that Labour are rethinking their plans amid growing concerns that those affected could simply leave the country, meaning the move would fail to generate any income for the government.

There have been calls to replace the proposals in this area with a different system to prevent the departure of wealthy foreigners from the country, such as a regime based on Italy’s flat-tax model. The introduction of a Tiered Tax Regime (TTR) taxing net wealth at a flat rate could also stop non-doms leaving the UK, according to a study by Oxford Economics, and reportedly has strong support from the non-dom community. 

Foreign Investors for Britain — a newly formed lobby group representing the interests of the country’s 74,000 non-doms — have met with the government to urge them to scale back plans amid concerns. 

Other measures 

Home buyers could face an additional £2,500 in stamp duty land tax due to plans to end a £2 billion discount. 

The Chancellor is also likely to set out plans on tax avoidance and evasion in the Budget, Helen Thornley, ATT technical officer, has noted in ‘The i’. 

We are likely to hear more about Labour’s plans for business rates reform in the Budget. These are expected to be revenue neutral.

Ministers have said that the Budget will see a draft Business Tax Road Map issued for consultation.

The Treasury is reportedly contemplating a significant tax increase on the gambling sector, which could raise between £900 million and £3 billion. Proposals from the Institute for Public Policy Research suggest doubling taxes on “higher harm” products, but industry lobbyists have warned that increased taxes could lead to a rise in illegal gambling.

The 5p cut to fuel duty introduced in 2022 may be reversed, according to some speculation. This would raise around £2bn. Additionally the government may break the habit of previous administrations by going ahead with inflationary increases in fuel duty (potentially a further 2p).

Rachel Reeves is considering raising the tax on vaping products in the upcoming Budget as figures lay bare how many children access them in the UK, according to The Guardian.

There is plenty of speculation about changes to Labour’s fiscal rules. Commentary suggests that the rules themselves will not change but that the chancellor could change how debt is calculated, giving her room to borrow more. (The two rules are that the current budget must move into balance so day-to-day costs are met by revenues and that debt must be falling as a percentage of GDP by the fifth year of the forecast.)

Keir Starmer is facing a backlash from three cabinet members over “huge” cuts to departmental spending to be unveiled in the Budget, according to reports.

_{Note: Edited 21/10/24 to correct paragraph on IHT and pensions.}