Estate Duty Versus Inheritance Taxation 1894

Reform of death duties
THE last two or three years have seen a series of proposals radically to change the present death duties in the United Kingdom. The reformers share common ground on the need to reduce the nominal rates of duty whilst at the same time making them effective by the addition of a gifts tax. They part company, however, on one major issue, the form of the tax. Should the estate duty form be retained or replaced by an inheritance tax, in one of its versions, which would mean taxing individual beneficiaries on what they received instead of levying tax on the aggregated property of the deceased?1

This current interest in death duty reform and in particular this division of opinion on the most suitable form of duty give point to an examination of the controversy which surrounded the introduction of estate duty in 1894 and endow the arguments of the supporters and opponents of estate duty with more than antiquarian interest.

Harcourt's objectives
"Wonderfully free from any electioneering taint" was how The Economist described the budget introduced by Sir William Harcourt in 1894. Facing a £4,000,000 deficit Sir William proposed to amend the Sinking Fund, increase the beer and spirit duties and, most important, carry through the long overdue reform of the death duties.

When Harcourt rose to address the House there were five death duties in all (apart from Corporation duty-imposed in lieu of death duties on corporate and unicorporate bodies and classified with death duties by the Inland Revenue). They presented "an extra-ordinary specimen of tesselated legislation."3 The Probate duty, which began life as a stamp duty in 1694, the Account duty, introduced 1881 to protect the Probate duty from avoidance by gifts inter vivos and the Estate duty (after 1894 generally referred to as the Temporary Estate duty to avoid confusion) introduced by Goschen in 1889, were all duties levied on the property of the deceased regardless of its destination. The Legacy duty (introduced by Lord North in 1780) and Succession duty (a product of Gladstone's Chancellorship of 1853) were both inheritance taxes, acquisition duties on the beneficiary, graduated according to consanguinity. The Probate, Account and Legacy duties applied almost entirely to personalty: the Succession duty to realty, settlements taking effect on the death of the settlor, and to leaseholds-technically personalty but ranged with and taxed as land. The Temporary Estate duty taxed both realty and personalty. The first of Sir William's aims was to simplify this complicated structure.

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1 G. S. A. Wheatcroft (Estate and Gift Taxation, A Comparative Study, Sweet & Maxwell, 1965 (republished from B.T.R.)) favours the retention of estate duty and receives strong support from A. R. Prest (Chap. 15, Public Finance, Weidenfeld and Nicolson, 3rd ed., 1967). On the other side J. E. Meade (Efficiency, Equality and the Ownership of Property, Allen & Unwin, 1964) and C. T. Sandford (Taxing Inheritance and Capital Gains, Hobart Paper 32, I.E.A., 2nd ed., 1967) prefer the inheritance tax. The proposals of The Economist ("Taxing Britain's Wealth," January 15 and 22, 1966) also involve a switch from an estate to an inheritance basis.

3 Harcourt's Budget speech, The Times, Parliamentary Reports, April 17, 1894.

In their liability to national taxes owners of real property were favoured as against owners of personalty. Besides concessions to realty in the method and timing of payment, real property was exempt from probate duty and enjoyed advantageous methods of valuation under the Temporary Estate duty and the inheritance taxes, paying on the life interest instead of the net capital value at which personalty was assessed. Additional rates of Succession duty, imposed by Goschen in 1888, did not fully offset these advantages. Harcourt's second aim, therefore, was to equalise the burden of taxation on the owners of personal and real property respectively.

Thirdly, Harcourt wished to introduce a tax which was boldly and openly progressive. Graduation in the rate of tax according to the value of the estate appealed to Harcourt as the application of that elusive principle of taxing according to "ability to pay." As long as taxation was proportional, aggregation of property was unnecessary; but the logical application of progressive rates of taxation automatically involved the aggregation of all property for the purpose of calculating the rate of duty.

With these three objects in view the Chancellor proposed to sweep away the Probate, Account and Temporary Estate duties, replacing them by a new Estate duty levied according to the aggregate principal net value of all property, real or personal, settled or unsettled, which should pass on the death of any person, whether by a disposition of the deceased or by a settlement made by others. The rate of duty was to vary from 1 per cent. on an estate between £100 and £500 value, to a maximum of 8 per cent. on an estate of over £1,000,000 value. Settled property was to pay the Estate duty only once during the continuance of the settlement, but as a partial compensation to the revenue it was to pay an additional duty of 1 per cent. called "Settlement Estate duty" (also payable once during the continuance of the settlement with an exemption for a surviving spouse).

At the same time Sir William provided for the assimilation of the mode of valuation and rates of the Legacy and Succession duties so that they become virtually identical in their effect. Acquisitions of realty or personalty were thus taxed at a proportional rate on the net capital value of the devise or bequest, with graduations according to consanguinity.

Duties on personal property were payable in a lump sum within six months of death. Because of the more limited marketability of much real property the duty on that might be paid in eight yearly or sixteen half-yearly instalments, with interest from the date at which the first instalment became due, twelve months after death.

Harcourt could sum up the changes by the claim that, "There will be two duties instead of five duties, and two equal duties in place of the chaotic inequality of incidence which now prevails." His budget also provided for depreciation allowances for realty under schedule A of the income tax (approximately 10 per cent. in respect of land and 16 per cent. in respect of houses) thus partially compensating for the increased burden of the reformed death duties on land and remedying an injustice.

Opposition to progression
The Opposition attacked the new provisions on many and varied grounds. They revived the argument that, looking at taxation as a whole, the new proposals far from equalising the burden of taxation between real and personal property owners, constituted a discrimination against the former because of their additional burdens under local taxation. Mr Goschen felt it necessary to "protest against these enormously high rates" because they would "frustrate the object aimed at" by setting everybody thinking how they could evade the duty; and the warning that large-scale evasion was likely to result was frequently given to the Government by Opposition speakers. The difficulty, if not the impossibility, of securing an equitable valuation o realty on the new basis was stressed.7 Some extreme critics almost went so far as to foretell the doom of English farming. But the most significant debates were concerned with two different questions-the equitability of graduated taxation, and the form of the new death duty.

4 This constituted a doubling of the time previously allowed (under the Succession and Temporary Estate duties) for payment by instalments of duty assessed on real property.

5 The times, Parliamentary Reports of the Commons debate of April 17, 1894.

6 See Goschen, The Times Reports of Commons debate of May 9, 1894. Mr Jeffreys: "Everybody who had to face this increased death duty began to think of how he could possibly avoid it." Finance Bill in Committee, Hansard, May 29, 1894, or the comments of Mr. J. Chamberlain, Finance Bill in Committee, Hansard, June 4.

7 For example, Mr. A. J. Balfour, Hansard, Parliamentary Debates, Finance Bill, May 10, 1894, cols. 877 and 878.

8 For example, Mr. W. Long, Hansard, Parliamentary Debates: Finance Bill, May 7, 1894, cols. 519-522.

Graduation, or progression, was not entirely new in English finance, but Sir William Harcourt's Estate duty represented the first attempt to apply the principle completely and consistently. Sir William himself was fully aware of the importance of the occasion, and could proclaim that "The most remarkable circumstance in the history of these financial proposals will be the decision of the House of Commons of the general principle of graduation. No doubt it will be the turning point in the history of the finance of this country."The opposition members, if they shared with Sir William the realisation of the momentousness of the occasion, did not all share his enthusiasm for progression itself. Mr. Chamberlain, leader of the Liberal Unionists, openly welcomed the principle, although he disapproved of the popular form of application. The Conservatives were divided: some gave their approval, others were strongly opposed. Their Leader in the Comons, Mr. Balfour, avoided a direct expression of opinion when an amendment raised the issue in a committee of the House to debate academic issues of a broad and general nature. He did, however, give a warning which had already been delivered with clarity and force during the Second Reading debate by Mr. Goschen, who plainly repudiated graduation. Both stressed the point that, once the arithmetical proportion is abandoned, there is no criterion by means of which to determine a "just" or "equitable" rate.

"When you embark on this syetm of graduation there are no stages, no landmarks, nothing whatever to guide you. There is no principle of justice-no principle, where you can say you ought to stop; no principle of prudence-no principle whatever. ... Equality of sacrifice will not find correspondence in the geometrical progression of taxation ... You have attempted an impossibility if you attempt to reach what is real quality of sacrifice."

9 "The two great characteristics of the new duty are graduation and aggregation ... though neither are absolutely novel, they have never, before the act of 1894, been carried out in so complete and systematic a manner in the legislation of this country." (37th Report of the Commissioners of H.M. Inland Revenue.)

10 Sir W. Harcourt, Finance Bill in Committee, Hansard, June 4, 1894.

11 Mr. Chaplin was one of the strongest opponents. He disapproved of graduation on four grounds-the penalisation of industry and thrift, the imposition of an exceptional burden on a class which, limited in numbers, was powerless to oppose it; the direct invitation which it gave to evasion; and the belief that it would open the door in the future to the danger of the greatest possible injustice being inflicted on a most limited class at the behest of some needy Chancellor of the Exchequer.

12 Goschen, reported in The Times, Parliamentary Debates, Wednesday, May 9, 1894. Similarly Balfour: "It has been laid down over and over again that the only safe and plain principles are in arithmetical proportion, and if these are left then we at once get into an unsound, unsurveyed sea without a compass to guide us." Hansard, Parliamentary Debates, May 10, 1894. The Opposition made considerable play with Gladstone's observance a few years before, that "I have never been able to observe any absolute rule by means of which that graduation is to be kept within bounds ..." E.g., quoted by Mr. Chaplin, Hansard, Parliamentary Debates, June 4, 1894.

Estate duty or inheritance tax
On the second major issue, and the one which most concerns us, the form of the new tax, the Opposition condemned the the Government's proposals because they preferred an inheritance tax to an estate duty. The 1894 Estate duty was just the rates of inheritance tax would need to be much higher than those of an estate duty. Finally, in reply to the arguments of the Opposition that an estate duty would be inequitable because it was paid out of the share received and yet might bear no relation to that share, Government spokesmen pointed out that it was open to the testator to make his own provisions for the payment of tax in his will, and only in the absence of these provisions would it be assumed that he wished the tax to be levied in the same proportion on all bequests and devises.

14 e.g. Mr Courtney-The income tax in its present form involved the necessity of taxing all income at the same rate: "The rich man, who died, was therefore in debt to the state, There was an accumulated deficiency in his contributions to direct taxation, and the simple defence of the ... Estate duty ... was ... that it was a debt due from the estate of the deceased to the State in consequence of the deficiency of his contributions during his life ... The duty was a debt which must be paid out of the dead man's effects before they could be distributed." Hansard, Parliamentary Debates, Finance Bill in Committee, May 29, 1894.

15 Sir W. Harcourt-"The graduated estate duty may be, in fact, reckoned in terms of an annual charge upon the estate, and in that shape may be regarded as a graduated., to obtain an equal revenue from wither, the rates of inheritance tax would need to be much higher than those of an estate duty. Finally, in reply to the arguments of the Opposition that an estate duty would be inequitable because it was paid out of the share received and yet might bear no relation to that share, Government spokesmen pointed out that it was open to the testator to make his own provisions for the payment of tax in his will, and only in the absence of these provisions would it be assumed that he wished the tax to be levied in the same proportion on all bequests and devises.

14 e.g. Mr Courtney-The income tax in its present form involved the necessity of taxing all income at the same rate: "The rich man, who died, was therefore in debt to the state, There was an accumulated deficiency in his contributions to direct taxation, and the simple defence of the ... Estate duty ... was ... that it was a debt due from the estate of the deceased to the State in consequence of the deficiency of his contributions during his life ... The duty was a debt which must be paid out of the dead man's effects before they could be distributed." Hansard, Parliamentary Debates, Finance Bill in Committee, May 29, 1894.

15 Sir W. Harcourt-"The graduated estate duty may be, in fact, reckoned in terms of an annual charge upon the estate, and in that shape may be regarded as a graduated income tax which is levied only upon realised property, and does not fall upon what are called 'precarious' incomes. So that, in point of fact, you do arrive at the result which is aimed at in the demand for a graduated income tax, falling upon what are called 'spontaneous' as distinguished from 'industrial' incomes." Hansard, Parliamentary Debates, Vol. 23, p. 489.

The Opposition countered the legal argument by maintaining that, if the right of bequest was a creation f the law, so were most of our other rights: Opposition members did not deny that the law had guarded, limited and regulated the right of bequest, but they did deny that this in itself constituted a precedent for taking away a man's property after he had bequeathed it. Mr. Balfour exposed a logical flaw in the "back-tax" arguments by showing that their application ought to involve graduation in an estate duty not only according to the size of estate, but also according to the length of time the deceased person had enjoyed his wealth: the poor man who enjoyed a small property for a long time ought to pay more than the rich man who enjoyed a large property for a small time.16 The opponents of the Estate duty emphasised that in practice the incidence of the tax was on the heirs and not the deceased person: the proposed new duty, they argued, was assessed on a fund which bore no relation to what a man got, and it was paid out of a fund which bore no relation to the fund on which it was assessed; and when it was urged that the testator could remedy the injustice by providing that the tax was paid by the residuary legatee or in any other way he determined in his will, they quoted the caese of a man with £100,000 and ten children where each would pay a larger tax on an equal share of £10,000 than would be paid on an estate of £10,000 all bequeathed to an only son-no re-appointment of the tax between the beneficiaries could remove this injustice. "You have adopted graduation" denounced Mr. Balfour.

"because you think it is the method to produce quality of sacrifice. Why have you not the sense or the courage to make your system consistent? I understand the advantage of taxing aman at an increased ratio in proportion to his wealth: I do not understand the advantage of taxing a man exceptionally, not according to his own wealth, but according to his father's wealth, and that is what you do under this Bill ... Graduation may be the discovery of the age. It may be the medicine which is to cure all our financial ills, but in Heaven's name apply graduation like rational beings and graduate property in proportion to the amount enjoyed, and not in proportion to the amount left by those who can no longer enjoy it."

17 Mr. Butcher, Hansard, Finance Bill in Committee, May 29, 1894.

18 Speech of Mr. Jeffreys, Hansard, Finance Bill in Committee, May 29, 1894.

Finally, two further advantages of the inheritance tax were claimed by Mr. Grant Lawson : an inheritance tax would constitute an encouragement to the distribution of property because "a testator would have the opportunity by distributing his property of lowering the amount he would have to pay to the state": also it would be administratively superior to the Estate duty in that it would expedite the winding-up of estates, since many beneficiaries could pay tax on their share without it first being necessary to aggregate the whole estate in order to determine the rate of tax.

The argument of 1894 about the most desirable (or least undesirable) structure a reformed death duty should take-where estate or inheritance tax, a duty on the corpus of the estate or on the individual benefits-has been thrown into relief by the publication, after his death, of the budget proposals of Lord Randolph Churchill-"the only Chancellor of the Exchequer who never introduced a budget." Lord Randolph resigned from Lord Salisbury's Government in December 1886 ostensibly because the Prime Minister and other members of the Government could not or would not adopt the measures of economy to which Lord Randolph felt himself bound by his election pledges, but fundamentally because has radicalism was out of harmony with the conservatism of his leader. Before he left the Exchequer he had, however, formulated his budget proposals which envisaged a reform of the death duties much more sweeping than, and very different from, the reform of Sir William Harcourt. Lord Randolph planned to sweep away all the existing duties and replace them by a single inheritance tax graduated according to the value of the individual succession. Realty and personalty were to be put on an equal footing and the principle of graduation according to consanguinity was to be discarded: the testator, Lord Randolph maintained, in disposing of his property would naturally favour those nearest and dearest to him, so interference by the state was pointless. A liberal system of discounts was to hasten the departure of the Probate, Account, Legacy and Succession duties, and the whole scheme was designed to serve the dual purpose of increasing the revenue from death duties and simplifying their operation.

Let us leave it to Winston Churchill, by word and action, to sum up this controversy. "We now assert" he wrote "the vicious principle of taxing property instead the living."Yet when Churchill himself became Chancellor of the Exchequer in 1925, neither his sense of filial duty nor his early conviction of the inferiority of estate duty was sufficient to induce him to replace it by an inheritance tax.

21 Lord Randolph Churchill By Winston S. Churchill, Chaps. 15 and 16.

22 Winston Churchill, Lord Randolph Churchill, Vol. 2, p. 196, published 1906.