• Michalis Papachristodoulou

Samsung’s $11bn Inheritance Tax Bill: How Inheritance Tax Works

The heirs of Lee Kun-hee, the former chairman of Samsung Electronics who died in October of last year, will have to pay what is thought to be the world’s largest inheritance tax. South Korea’s massive 50% inheritance tax rate means that an estimated $11 billion will be paid, forcing Lee’s family to relinquish ownership of an esteemed art collection, and may even lead to a sale of Samsung shares to pay the tax. In this article, we analyse how Inheritance Tax works and its significance in wealth distribution.


How Inheritance Tax works


Inheritance Tax (“IHT”) is a tax imposed upon the death of a person, taxing the assets that the deceased person has left behind for their family. Once a person dies, an administrator will be appointed to take stock of all the deceased person’s assets and liabilities, with the cumulative value of those being referred to as the ‘estate’. A deceased person’s estate covers all the property, money, and possessions of the deceased person and the process of determining the value of an estate can be burdensome for high-value individuals.


The administrator will have to contact many organisations to determine the deceased person’s assets and liabilities, such as banks, utility providers and pension funds. Details of both bank accounts held, and loans owed must be collected. The administrator may also make a public call for anyone who is owed money from the deceased person to come forward with details of their claim, which the administrator must then verify. The value of the deceased person’s possessions must also be considered, including any land they held, and their car, furniture, or jewellery. Experts may be needed to appraise the value of some of the deceased’s assets. For Lee’s estate, this meant that experts were required to value his art collection which included paintings from Picasso, Monet, and Dalí.


In the UK, it is not possible to bypass the payment of IHT by making life-time gifts prior to death. This is due to the fact that certain life-time gifts are taxable for the purposes of IHT. The administrator will have to check the deceased person’s financial statements to determine whether any gifts of cash or other assets of a value higher than £3,000 per year were made in the 7 years before that person died. If such gifts were made within that timeframe, a proportion of them will be considered as part of the deceased person’s estate.


How IHT promotes a society’s objectives


In most jurisdictions, there is a threshold below which no IHT is paid, called the ‘Nil-rate Band’ in the UK. The UK has set that value at £325,000, thus no IHT is paid for estates of a value lower than £325,000. There are also various exemptions that promote some societal policies, including the promotion of home-ownership, the need for business continuity and incentivising charitable donations.


One of the most important exemptions is that no tax is payable when the primary residence of a person is given to the deceased person’s spouse. This exemption has risen in significance as house prices have skyrocketed. The UK-wide average price for a house was £266,742 in November 2020. For a house in London, the average price is a whopping £513,997[1]. This means that in many cases the value of the house would, by itself, exceed the IHT threshold and the 40% tax rate would have to be paid on the excess. This could have the unintended effect of forcing the surviving spouse to sell the home just so that they can afford to pay the IHT chargeable on their deceased spouse’s estate. To avoid such situations, no IHT is payable on the transfer of a home to the surviving spouse.


The promotion of home-ownership is supported even further by the increase in the IHT threshold when the home of a deceased person passes on to that person’s direct descendants. This is called the ‘Residence Nil-Rate Band’ and it adds £175,000 to the ‘Nil-rate Band’ when the home is transferred to the children, adopted children or grandchildren of the deceased person, taking the total of a person’s untaxable estate to £500,000.


The UK’s IHT system also promotes charitable donations through the imposition of a lower tax rate when the deceased leaves a part of his wealth to charities when he dies. Rather than paying 40%, a person who donates 10% or more of the net value of the deceased’s estate will pay IHT at the rate of 36%. The use of IHT to promote donations is replicated throughout much of the world, and South Korea is no exception. Donations reduce the taxable estate of the deceased person, and it is for that reason that Mr Lee’s collection of antiques and paintings was donated to the National Museum of Korea and other cultural organisations.


In contrast to the provision for charitable donations, business reliefs are a feature of the UK’s IHT that is not as widespread in other jurisdictions. If the deceased person owned a business or shares in a private company prior to their death, the value of that business or those shares would be wholly exempt from IHT. Even for public companies, a shareholding that gave the deceased person more than 50% of the voting rights would benefit from a 50% reduction in the tax payable on them. These reliefs are meant to facilitate the continuation of a business after the death of its owner or main shareholder, by making sure that the tax bill remains affordable and does not force the estate’s beneficiaries to sell or close down the business in order to pay the tax bill. This relief would not have benefitted Mr. Lee, as his 4.18% holding in the publicly-listed Samsung company would not be enough to qualify for the relief.


Tax migration


Similar to how differing corporate rate taxes have led to the creation of tax havens for high-income companies, so have differing IHT rates and structures led to ‘tax migration’ for high net-worth individuals. The UK’s IHT rate stands at 40%, while South Korea and Japan’s IHT can reach up to 50% for high-value estates. In comparison, other countries have much lower to non-existent IHT, including some countries in the EU and most British Overseas Territories. For many millionaires and billionaires, the prospect of paying almost half of their assets as tax upon their death has led them to change their tax residency to jurisdictions where there is no IHT.


Richard Branson, the founder of the Virgin group of companies with an estimated net worth of $6.5bn, is amongst the most high-profile individuals to have changed their residence for the purpose of avoiding taxes. He has branded himself as a ‘tax exile’, making his reasons for moving to the British Virgin Islands very clear. BVI is one of the many jurisdictions to have no IHT, enabling it to attract many of the world’s oldest billionaires who are looking to protect their estate from taxes.


Looking Forward


With inequalities in wealth distribution rising and the increasing need to raise the income of governments to fund the recovery from the Covid pandemic, it is likely that governments will look more into the use of IHT to tackle these issues. Yet, governments must also preserve the parts of the current IHT structure that promote home-ownership, charitable donations, and business continuity, whilst simultaneously finding a way to reduce the growing trend of tax migration that deprives the UK of millions in tax revenue.


[1] https://www.gov.uk/government/news/uk-house-price-index-for-november-2020

0 comments