ITR filing 2023-24: Inheritance tax: Does India need to tax the rich on death?

Income tax return: Is inheritance tax levy feasible in India?

When one inherits any asset in India by way of transmission upon the death of a relative, no tax is currently imposed either on the estate of the deceased or on the person who inherits it.  Many countries impose such a tax. Whether India needs to impose an estate tax is a matter of debate and depends on various economic, social and political factors.

India levied taxes on death under the Estate Duty Act of 1953 until it was abolished in 1985. The primary reason for this was that the administrative cost involved in collecting the tax exceeded the actual collection. Further, the tax authorities lacked the skills or resources to determine the value of the assets of the deceased person and enforce recovery on time.

Reintroducing the inheritance tax or a similar levy in India for revenue generation and wealth redistribution to promote social equality seems probable, but the many attendant downsides cannot be overlooked.

The arguments for and against inheritance tax

The sheer income and wealth disparity that exists today is the only argument that proponents of an inheritance tax have for it to be brought back. However, opponents claim that such a levy can have a negative impact on investment and wealth creation, which in turn will affect the growth of business enterprise and entrepreneurship in India.

Estate or inheritance taxes create a disincentive for accumulating wealth in India and encourage migration to jurisdictions that do not impose such levies. Moreover, such taxes can easily result in a vicious cycle of a decline in savings, investments and economic expansion.

Also, the subjectivity in valuing assets and, very commonly, a lack of liquidity with the legal heirs are among the legitimate concerns, apart from the hardship and administrative difficulties that is likely to burden the system with claims and litigation that such a law would in all likelihood give rise to.

Another argument is the principle of no double taxation. The reasoning is that it is unfair to impose such tax on assets accumulated using the post-tax funds of the deceased, which effectively amounts to double taxation. The counter argument is that this is not the case if one sees it from the legal heir’s perspective as they haven’t paid any tax on such wealth.

Also read: What is inheritance tax?

Among those countries that do levy an inheritance tax—these include the US, Germany, Frace and the UK—many have exemption limits so that the tax axe falls only on the uber-rich. While India could adopt a similar approach, there remains the ever-present probability of the rich creating sophisticated structures like trusts to ring-fence their wealth.

Socioeconomic priorities, political will and the larger tax structure will ultimately determine whether or not India needs to enact an inheritance tax. Before making a choice, policymakers would have to carefully consider the possible disadvantages of such a tax and weigh the benefits against other policy or fiscal measures meant to combat wealth inequality and advance economic growth.

Also read: "Any inheritance tax in India risks flight of wealth from the country."

A large exemption threshold preferable

Wealthy families have already started hedging against any move towards an estate tax, even without a draft law in sight. Currently, there are no taxes on gifts to relatives or on transfer to a private family trust where beneficiaries are family members. There are no thresholds on such gifts or settlements either. It remains to be seen if the laws when enacted will apply prospectively or it has some retrospective element, given that a significant portion of Indian wealth has already been or will soon be placed in private trusts or transferred by way of inter vivos gifts.

If at all India is going to impose such a tax, we should expect a different avatar of inheritance tax duly tweaked to meet Indian cultural and social issues alongside a reasonably large exemption threshold, exclusion of family home and other specified assets from inheritance tax, progressive inheritance tax rate slabs, a longer time period to deposit the tax to deal with liquidity issues and thus preclude distress sale of assets.

No one likes taxes during their lifetime and everyone hopes that estate taxes remain buried, yet taxes and death are the only certainties.