News Excerpt:

The use of inheritance tax as a tool for the redistribution of wealth to address income inequality has been discussed widely and has created controversy in the midst of ongoing General Elections.

What are Inheritance Tax and Estate Tax?

• Estate and inheritance taxes are two types of taxes that are imposed when a person passes away. Although they are both related to death, they have different targets. 
• Estate taxes are applied to the total value of the deceased person's property as of the date of death, whereas inheritance taxes are charged to the beneficiaries who inherit the property. 
• The tax amount is generally calculated based on the value of the assets that remain once all the exemptions and deductions have been made. 
• The primary objectives of inheritance taxes are to boost government revenue and promote wealth redistribution.

History of inheritance tax in India:

• In 1953, India’s Parliament passed the Estate Duty ‘Death Tax’ Act, which was later abolished in 1985 by the Union government. 
• As per the Act, tax/duty was imposed on the principal value of movable and immovable property, including agricultural land, passed on to any person after the death of the owner of such property. 
• The Act was amended in 1960 to exclude properties in Odisha, West Bengal, and Jammu & Kashmir, and further in 1968, 1982, and 1984 to include amendments made by other Finance laws.
• After implementation, the death duty imposed peaked up to 85%, making it highly unpopular. In 1985, the Government abolished it as the income generated for the Centre via such taxes was much less than the cost incurred due to the administrative process of executing it.
• India also had a wealth tax and a gift tax, which were abolished in 2015 and 1998 respectively.
• As of date, there is no tax imposed on property inherited, whether through a will or by intestate succession.

Ways to tax wealth:

• Taxes are levied on the flow of income on wealth or at the time of transfer of wealth or on the stock of wealth linked to the value of owned assets as a one-time levy. 
• There can be a capital levy on income from wealth or ownership of assets resulting in capital gains, transfer taxes in the form of wealth tax, inheritance tax, estate tax, or gift tax at the time of transfer of wealth or assets.
• Taxes can also be levied on a combination of income and wealth. 
• The USA Administration has proposed legislation for a ‘Billionaire Minimum Income Tax’ of at least 25% on their full income, including unrealized gains.

The taxes on wealth in India:

• The now abolished estate duty was inheritance tax with a threshold of Rs 1 lakh, and progressive rates from 5% to 40% on the principal value of the estate exceeding Rs 20 lakh. 
• The Estate Duty Act, 1953 was amended in 1958 to change the definition of an accountable person, lower the applicable threshold, and redefine slabs.
• Even after its abolition, the idea of inheritance tax remained alive and was part of official and unofficial discussions.
• The Union government announced the abolition of wealth tax and its replacement with a surcharge on the super-rich in the Budget for 2015-16. 
• The then Finance Minister said while wealth tax was 1% on assets of Rs 30 lakh and above (excluding equities, bonds, and first house), the total wealth collection in 2013-14 was only Rs 1,008 crore. 
• An additional surcharge of 2% was levied on individuals with taxable income of Rs 1 crore and above, which was expected to bring revenues of Rs 9,000 crore.

Shortcomings of inheritance/wealth tax:

• Wealthy taxpayers are seen as being sensitive to high rates of taxation, which often results in the flight of capital and investment to tax havens or tax jurisdictions with favorable tax rates. 
• Also, high tax rates do not make sense if the cost of collection and administration of these taxes are high compared to the revenues that arise.

Cost and Revenue from these taxes:

• In the initial years of estate duty, collections were lower than the budgeted estimates. 
• For instance, the government had budgeted Rs 25 lakh as estate duty revenue in the first year of implementation in 1954-55, which was later revised down to Rs 8 lakh.
• The high cost of collection and double taxation in various forms of wealth tax were cited as reasons for abolishing estate duty.
• In his Budget speech of 1985-86, the then Finance Minister said the existence of two separate laws for tax on property — wealth tax before death and estate duty after death — amounted to “procedural harassment” of taxpayers. 
• He also said that estate duty had not achieved its objectives of reducing the unequal distribution of wealth and assisting states in financing their development schemes. 
• While the yield from estate duty was only about Rs 20 crore, its cost of administration was relatively high.
• The issue with wealth tax was the same. 
• Therefore the government abolished the wealth tax and replaced it with an additional surcharge of 2% on the super-rich with a taxable income of over Rs 1 crore in 2015.
• The gift tax was abolished in 1998 citing lower revenues. 
• The gift tax was levied in India since 1958. 
• The revenue yield from this tax was insignificant amounting to Rs 9 crore the year it was abolished. 
• The Gift Tax Act was also not successful as an instrument to curb tax evasion and avoidance and hence was abolished in 1998.
• The gift tax was, however, revived in a different form later. 
• In July 2004, the government introduced a gift tax to plug a loophole to prevent money laundering. 
• Thus, purported gifts from unrelated persons above the threshold of Rs 25,000 (later raised to Rs 50,000), were decided to be taxed as income. Gifts from blood relations, lineal ascendants and descendants, and gifts on occasions like marriage continued to be exempt.

Experience elsewhere:

• A March 2024 note by the International Monetary Fund (IMF), said tax rates on wealth have generally declined around the world over the past decades.
• The decline in average corporate income tax rates was an important component across country groups of all income levels.
• 12 OECD members had wealth taxes in 1990, but only three (Switzerland, Spain, Norway) now levy a broad-based wealth tax.
• According to leading financial firm Pricewaterhouse Coopers (PwC), most European, American, and even African nations levy inheritance tax. 
• In Europe, the top nations levying tax on inherited properties are — France (60%), Germany (50%), United Kingdom (40%), Spain (33%) and Hungary (18%). 
• Other countries with high inheritance taxes are Japan (55%), South Korea (50%), Ecuador (37%), Chile (25%), South Africa (25%) and Taiwan (20%)

Low tax rates paid by wealthy individuals:

• According to the EU Tax Observatory, an independent research laboratory at the Paris School of Economics, global billionaires have effective tax rates equivalent to 0-0.5% of their wealth due to the frequent use of shell companies to avoid income taxation. 
• A global minimum tax on billionaires, equal to 2% of their wealth, could potentially raise close to $250 billion from fewer than 3,000 individuals annually, it said in its Global Tax Evasion Report 2024.
• Wealthy taxpayers often reduce the incidence of average tax rates by exploiting loopholes and preferential treatments of certain capital income.
• Citing data from various studies, the IMF said the wealthiest 25 individuals in the US faced an effective average tax rate of only 3.25% while a rate of 9.4% was reported for the top 400 families.