News: The dollars and cents of inheritance tax

This article first appeared in Personal Wealth, The Edge Malaysia Weekly, on September 25, 2017 - October 01, 2017.

The best kind of tax would be a flat rate across the board once the overall asset value exceeds a particular limit. > Liew

The authorities would have to take into account the compliance costs that arise on the part of the taxpayer. > Chua

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Talk of a possible return of the inheritance tax heightened a few weeks ago, but the matter has been put to rest by Second Finance Minister Datuk Seri Johari Abdul Ghani, who has denied that the tax will be announced at the tabling of Budget 2018 next month. However, that has not stopped high-net-worth individuals (HNWIs) from discussing the implications of such a tax on the financial landscape and their assets should it be reintroduced in the future. 

The experts whom Personal Wealth spoke with were almost unanimous in their view that a reintroduction of the tax would be a step backwards. According to McMillan Woods Global founder and president Datuk Seri Raymond Liew, an inheritance tax is typically introduced to overcome inequality in the distribution of income or capital asset accumulation. 

“Other possibilities could be where the overall tax collection in a country is low or there are no taxes other than income tax. However in Malaysia, we have taxes on practically everything we use and consume — income tax, road tax for motor vehicles, stamp duty for asset transfers, tax on a variety of licences and, of course, the Goods and Services Tax, which was introduced in April 2015, just to name a few,” says Liew. 

Having yet another tax would simply “discourage entrepreneurs from working harder”, he adds. If anything, such a move may even drive them out of the country. 

Datuk Chin Chee Kee, chairman of the Labuan Trust Companies Association, concurs. “We already have the Real Property Gains Tax (RPGT), which is a tax on the transfer of properties, so I don’t think there should be any more taxes on such transactions.”

Tan Hooi Beng, international tax leader at Deloitte, says any reintroduction of the inheritance tax is thought to “have a negative impact on the accumulation of wealth and is not effective in equalising opportunities among residents”. 

“I am neutral on the inheritance tax myself, and without predicting as to whether it will be introduced in Malaysia, one argument against the tax is that when money is earned, tax is paid on it at the time. To pay tax on the asset again would constitute double taxation, which is not fair. But I am certain that any government would conduct an in-depth feasibility study on the matter before reintroducing such a tax.”

Tan, citing the experiences of a number of international jurisdictions, points out that HNWIs in countries with inheritance tax tend to spend a lot of time and money on asset planning, which he says is unproductive. “In 2007, 94% of all estates escaped the UK inheritance tax. As a result, it only accounted for 0.8% of UK tax revenues.”

For many of the developing countries in Asean, the lack of an inheritance tax or estate duty encourages HNWIs to keep their assets at home rather than investing abroad, says Liew. By the same token, foreign investors would be discouraged from parking their assets in countries with an inheritance tax or estate duty.

Many countries in the region have removed their version of the inheritance tax altogether. This is due to the eroding inheritance tax base, disproportionately high compliance and administrative costs, and inordinate amount of time and money spent on tax planning by taxpayers, says Liew.

Those in the region that have abolished the inheritance tax include Brunei (2013), Singapore (2008), Hong Kong (2006), New Zealand (1992) and Australia (1979). Indonesia, Cambodia, Laos and Myanmar have never had any form of inheritance tax. 

Thailand, Vietnam and the Philippines still have their inheritance tax regimes in place while Brunei imposes an estate duty on all immovable property.

In Malaysia, the inheritance tax was abolished in 1991. Back then, assets in excess of RM2 million were taxed at 5% while those exceeding RM4 million were taxed at 10%. The tax was payable before the inheritance could be released to the heir. 

“However, it was an inefficient and narrow-based tax as it was the kind where revenue declined over time. That is because eventually, the wealth would be channelled away from the country to a jurisdiction without inheritance tax,” says Liew. 

Taxes are commonly described as broad-based or narrow-based. Broad-based taxes refer to those that are imposed on most of the population, such as GST, while narrow-based taxes are imposed on fewer people. 

Datuk Chua Tia Guan, executive director and head of tax and financial consulting at Great Vision Advisory Group, says any form of inheritance tax would be a non-starter unless the authorities take into account the revenue collection after the administrative and compliance costs have been factored in. “Let’s say, 50 sen out of every ringgit collected goes to administrative costs, then there is little point to the tax. This applies to all kinds of tax, but is even more critical when the tax only applies to a narrow band of taxpayers.

“Even then, the authorities would have to take into account the compliance costs that arise on the part of the taxpayer. There are also the accountant and financial planner fees to consider. And with an inheritance tax, lawyer fees would have to be factored in as well.” 

The experts say it is crucial to consider just how many taxpayers in Malaysia have such levels of personal wealth. So, how much could the authorities realistically hope to collect? 

“Also, it would be years before an inheritance tax is paid to the authorities,” Chua quips. “Someone would have to pass away, then the probate would take some time to be issued. And if that is not applicable, then a letter of administration would have to be applied for.

“If the deceased was not a meticulous recordkeeper, the process could become long drawn out. This is one of the reasons the administrative costs for calculating inheritance tax — both for the government and taxpayer — could be very high.” 

Liew agrees that the relatively high compliance and administrative costs associated with an inheritance tax would result in added ineffiencies for revenue collection by the government. “Also, tax and finance professionals would end up spending too much time helping clients with their tax planning, when they should be helping clients improve the value of their capital assets.” 

Liew says that if an inheritance tax comes into force in the future, “the best kind of tax would be a flat rate across the board once the overall asset value exceeds a particular limit”. He advocates keeping the tax calculation as simple as possible in view of the many shortfalls and the negative impact on the economy as a whole.

Chua believes that if an inheritance tax is imposed in the future, it will trigger a rush of asset transfers by HNWIs before the tax comes into force. There also needs to be careful consideration of how the rules on gifting may be affected by the tax, he adds. 

Malaysia currently has no law pertaining to the gifting of assets to the next of kin, but this potential loophole could be plugged if the inheritance tax is reintroduced. 

Rockwills Group managing director Saw Leong Aun and Rockwills Trustee Bhd deputy CEO Azhar Iskandar Hew see the possibility of a “floodgate effect” in wealth transfer, both in volume and value, should an inheritance tax be imposed in the future. “It is possible that there will be an increase in transfer of assets, either as direct gifts or through trusts. It is clear that the introduction of the inheritance tax in other countries saw a discernible increase in the creation of trusts, particularly in the UK, Australia and New Zealand,” says Saw. 

Azhar says, “That is because a trust — as a gift with conditions observed by an independent and professional third party entity — is superior to a direct gift to intended beneficiaries, who may be exposed to financial misadventures.”

Labuan Trusts’ Chin says a Labuan foundation tends to be a preferred vehicle through which HNWIs bequeath their wealth to their next of kin. “It is quite an attractive structure because the founder is able to appoint a board of directors, who would then be responsible for managing the properties registered under the foundation. By contrast, a trust company is managed solely by the trustee, which can be a complicated process, especially if the appointed trustee is a layman.”

He adds that Labuan foundations have become more popular over the past year now that they can open accounts with local banks, such as Maybank, CIMB Bank and Public Bank, which they previously could not.