Labour and Lib Dems attack Tories over inheritance tax change

A Conservative proposal to remove houses worth up to £1m from inheritance tax came under fire on Sunday for disproportionately helping wealthy families and discouraging the elderly from moving into smaller homes.

But George Osborne, the chancellor, championed a £1bn policy that will be at the centre of the Tory election manifesto as supporting "the basic human instinct to provide for your children".

The new transferable "family home allowance" of £175,000 per person would exempt an estimated 22,000 estates by 2020.

The Conservatives say that rising property prices are drawing more families of "relatively modest" means into the tax, currently levied at 40 per cent on wealth above £325,000 - or £650,000 for a married couple. It has designed its policy so the very richest would not benefit by tapering the allowance for properties worth more than £2m, so that those worth more than £2.35m do not benefit.

But the proposal was criticised by Labour for helping a small number of relatively privileged families. Harriet Harman, deputy leader, told the BBC: "It's becoming clearer and clearer as we get to the election how actually the Tories are helping a few people - and we want everybody to be better off."

Nick Clegg, the Liberal Democrat leader, said: "It is really quite revealing how George Osborne is prepared to set out in considerable detail how the Conservatives might deliver this benefit to a tiny number of families in this country and yet he is not prepared to come clean . . . with the pain they want to deliver, not just the gain they want to deliver to a small number of families."

The Institute for Fiscal Studies said the measure would save estates a maximum of £140,000 and would "go disproportionately to those towards the top of the income distribution".

It quoted a leaked Treasury document as saying "there are not strong economic arguments for introducing an inheritance tax exemption specifically related to main residences". The problems included encouraging investment in owner-occupied housing rather than more productive investments and discouraging downsizing late in life.

The measure would be paid for by restricting pensions tax relief for those earning more than £150,000. The annual allowance will taper from £40,000 for those earning £150,000 a year to £10,000 for those on £210,000 or more. For anyone who continued to put their income into a pension that would in effect raise their marginal income tax rate to 67.5 per cent.

The IFS said it was difficult to justify a new rate in effect of 60 per cent that kicks in at £2m because of the tapering back of the new allowance. "A preferable policy would have been simply to increase the existing threshold from £325,000".

The IFS said much of the policy was similar to those in a leaked Treasury document that forecast it would reduce the proportion of estates liable for IHT from 8 per cent in 2015-16 to just over 6 per cent by the end of the parliament, rather than see it rise to just over 10 per cent under current policy.

Last year, figures from the Office for Budget Responsibility, the fiscal watchdog, suggested the boom in house prices would propel IHT revenues to their highest share of national income since the early 1970s.

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About £3.4bn of IHT was paid in 2013-14 by 15,976 estates, according to HM Revenue & Customs. Residential property makes up about a third of the total value of taxpaying estates.

IHT is widely viewed as ripe for reform. The Mirrlees review of taxation carried out by the IFS called for radical measures to increase the legitimacy of a "halfhearted" tax that failed to tax the wealthiest and makes the "middle classes bear a disproportionate burden".

The Conservative proposal to raise £1bn from restricting pension relief from top earners follows a move in last month's Budget to restrict the amount that can be saved in a pension from £1.25m to £1m from 2016-17.

The IFS has previously argued that restricting the income tax relief on pension contributions would "be expensive to administer, be unfair and inappropriately distort behaviour". It criticised Labour proposals to restrict relief to the basic rate only for people with incomes above £150,000, as top earners are unlikely to be only basic-rate taxpayers in retirement, removing one of the principal arguments for restricting relief.

Last year the OBR said that unless there was an increase in the IHT threshold, which had been frozen since 2009, revenues were expected to rise by an average of nearly 11 per cent a year over the next four years. Strong house price growth was expected to double the number of estates large enough to pay the tax to nearly one in 10, pushing up receipts by 70 per cent to £5.8bn.

Additional reporting by Josephine Cumbo

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