Inheritance Tax: Equity and Efficiency

03 May Inheritance Tax: Equity and Efficiency

This article covers ‘Daily Current Affairs’ and the topic details of ”Inheritance Tax: Equity and Efficiency”. This topic is relevant in the “Economy” section of the UPSC CSE exam.

Why in the News?

In the midst of Lok Sabha election campaigning, there has been significant controversy surrounding the proposal to implement an Inheritance Tax in India. This tax is seen by some as a means to promote fair distribution of wealth. However, there are reservations regarding its potential exploitation for symbolic purposes and its portrayal as a populist measure under the guise of a “Robin Hood Tax.”

About Inheritance Tax

• Inheritance tax refers to a tax imposed on the transfer of property or assets received from a deceased individual. It is calculated based on the value of the inheritance received by the beneficiary and is typically paid by the beneficiary. 
• The tax rate can vary significantly depending on the country, with some jurisdictions imposing rates as high as 55%. Inheritances can be received through a formal will or under the applicable personal laws governing the deceased individual. Presently, in India, the practice of imposing taxes on inheritance is not in effect.

Inheritance Tax in India

• India previously enforced a different version of the Inheritance Tax, commonly referred to as the estate duty. This tax regime was introduced in 1953 and applied to the market value of all immovable properties within India, as well as movable assets transferred to successors following an individual’s death.
• However, due to a significant number of legal disputes and high administrative costs associated with tax collection, the Rajiv Gandhi Government opted to abolish the estate duty in 1985.

Reasons for Eliminating Estate Duty/Wealth Tax and Gift Tax:

1. Administrative Burden: Taxpayers faced excessive administrative burdens due to the presence of two distinct taxes on property, namely wealth tax (prior to death) and estate duty (following death).
2. Unfulfilled Objectives: These taxes failed to address the issue of unequal wealth distribution, and they did not significantly contribute to financing state development programs as intended.
3. Inefficiency in Scale: Despite the imposition of estate duty, the revenue generated was relatively low, around Rs 20 crore in 1985, while the administrative and collection costs were disproportionately high.
4. Tax Evasion: The imposition of high tax rates often leads to capital flight and investment diversion to tax havens or jurisdictions offering more favourable tax rates.

Status of inheritance tax in the world

• Several developed countries have inheritance tax rates that vary from 7% to 55%. For instance, in the United States, the federal government imposes a 40% inheritance tax on estates valued at over $12.06 million. 
• Similarly, in the United Kingdom, estates worth more than £325,000 are subject to a 40% inheritance tax rate. Other nations with notable inheritance tax rates include Japan, France, and South Korea, where rates range from 55% to 50%, respectively.
• Japan boasts the highest inheritance tax rate globally at 55%, with South Korea closely following with a rate of 50%.
• OECD Wealth Transfer Tax Trends: Among the 36 OECD countries, 24 impose taxes on the transfer of wealth from deceased individuals. However, since 2000, 10 OECD nations, including Austria, Sweden, New Zealand, and Australia, have opted to abolish this levy. Similarly, in developing countries like Brazil, South Africa, and the Republic of Korea, inheritance tax is viewed as a means to rectify wealth distribution disparities.

Advantages of Inheritance tax 

• Promoting Equity: An inheritance tax can play a crucial role in promoting wealth redistribution and reducing economic inequality. By taxing large inheritances, especially those received by the affluent, the government can generate revenue that can be used for social welfare programs aimed at supporting the less privileged sections of society.
• Resource Mobilisation: Implementing an inheritance tax can serve as a means of mobilising resources for the government. The revenue generated from such a tax can contribute to funding various development projects, infrastructure initiatives, and public services, ultimately aiding in the nation’s overall economic growth.
• Addressing Wealth Disparities: India grapples with significant disparities in wealth distribution, with a considerable portion of wealth concentrated in the hands of a few individuals or families. An inheritance tax can help curb the perpetuation of dynastic wealth accumulation and encourage a more equitable distribution of resources across society.
• Fostering Economic Efficiency: Inheritance taxes can also promote economic efficiency by discouraging the hoarding of wealth and encouraging its productive utilisation. By imposing taxes on large inheritances, the government can incentivize individuals to invest their wealth in productive ventures rather than simply accumulating it for future generations.
• Global Trends and Norms: Many countries around the world have implemented inheritance tax systems as part of their fiscal policies. India can align itself with global norms by introducing a similar tax regime, thereby contributing to international efforts aimed at addressing economic inequality and promoting social justice.

Disadvantages of inheritance tax

• Challenges in Assessment: The government would need to allocate significant resources and expertise for the assessment of property values and the collection of revenues derived from inheritance tax.
• Business Closure Risks: Inheritance tax could exert additional pressure on less profitable or smaller enterprises, as beneficiaries may lack the necessary funds to settle the tax obligation. This could potentially lead to distressed sales and the closure of businesses.
• Outflow of Capital and Talent: There’s a risk that inheritance tax may prompt the departure of entrepreneurial talent and financial resources from the country.
• Impact on Asset Creation and Inflation: Inheritance tax may deter saving and encourage consumer spending, potentially contributing to higher inflation rates. Moreover, it could dampen incentives for the creation of capital assets, thereby impeding economic growth.
• Double Taxation Concerns: Critics argue that inheritance tax imposes secondary taxation, as the inherited property or funds may have already been subjected to taxation as earned income.

Need of inheritance tax in India

Tax Burden Disproportionality

Approximately 64% of the entire goods and services tax (GST) revenue in the nation originates from the bottom 50% of the population, while only 4% emanates from the top 10%.

Escalating Wealth and Income Inequality

As per the World Inequality Report 2022, India ranks among the most unequal nations globally, with the top 10% and top 1% holding 57% and 22% of the national income, respectively. Conversely, the share of the bottom 50% has dwindled to 13%. Wealth distribution in India is alarmingly skewed, with the top 10% of the populace possessing 77% of the total national wealth. The wealthiest 1% owns 53% of the country’s wealth, leaving the less affluent half with a meagre 4.1%.

Rising Gini Coefficient

The Gini wealth coefficient in India surged from 81.3% in 2013 to 85.4% in 2017, where 100% denotes maximal inequality. The growth trajectory in India has been lacking in inclusivity.

Multidimensional Poverty

According to the NITI Aayog’s National Multidimensional Poverty Index (MPI), India’s population residing in multidimensional poverty was recorded at 14.96% during 2019-21. Rural areas of India witnessed multidimensional poverty at a rate of 19.28%, while urban regions reported a poverty rate of 5.27%.

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Prelims practise question 

Q1. What does the term “Base Erosion and Profit Shifting” refer to?

(a) Mining activities conducted by multinational corporations in resource-abundant yet underdeveloped regions.

(b) Efforts aimed at preventing tax evasion by multinational corporations.

(c) The utilisation of a country’s genetic resources by multinational corporations.

(d) Failure to adequately consider environmental costs in the planning and execution of development ventures.

Answer: B

Mains practise question

Q1. Discuss the potential advantages of reintroducing an inheritance tax in India. How could it help address the country’s wealth inequality concerns?

Q2. What are the potential economic implications of an inheritance tax in India, in terms of its impact on capital formation, investment, and entrepreneurship? Evaluate the merits and demerits of such a tax from an economic perspective.

Himanshu Mishra

I am a content developer and have done my Post Graduation in Political Science. I have given 2 UPSC mains, 1 IB ACIO interview and have cleared UGC NET JRF too.