By Chang Kim Loong
The issue of imposing inheritance tax has resurfaced again as the government are looking for revenue-enhancing measures.
The largest component of the wealth or estate of the average Rakyat is in the form of properties.
As there are no details yet on the proposed inheritance tax, we assume that the proposed inheritance tax will capture all classes of assets to be bequeathed to the beneficiaries’ including properties.
We will focus our arguments against inheritance tax by using properties as an example. However, our arguments are also applicable for other asset classes.
Inheritance tax is effectively imposing a tax on Inflation
Investing in properties is also said to be the best and safest hedge against inflation as the annual increase in property prices is said to be higher compared to the increase in the inflation rate.
Over the long run, property prices are expected to increase due to factors such as inflation, increased demand for properties and scarcity of new properties as land is a limited resource.
By imposing an inheritance tax on properties, the government is effectively imposing a tax on the inflation suffered by the house buyer.
Consider the following example of Mr Tan who bought a property in 1977 for about RM20,000.
He subsequently got married and stayed in the same property until his demise in 2020. At the time of his demise, the value of the property is estimated to be RM380,000 and Tan had left a will for the property to be bequeathed to his wife.
|Acquisition price of property in 1977|
|Current property value in 2020|
|Property Price / Value||20,000||380,000|
|Increase in property price||360,000|
|Increase in property price over original acquisition price (times)||18|
|Compounded annual increase in property price (%)||7.09%|
While it may seem very impressive that the said property has increased in value from RM20,000 in 1977 to RM380,000 in 2020, which is an increase of RM360,000 (or 18.5 times), we must remember that this increase was over a span of 43 years.
The compounded annual increase for this property from 1977 to 2020 is 7.09%. However, a large factor for this increase is due to inflation and when we talk about inflation, there is always the official inflation rate and the real inflation rate.
Now consider the impact inflation has on property prices.
|Implied property price based on assumed inflation rates||Implied Value in 2020 (RM)|
|Property Price in 1977||20,000|
|Official inflation rate (assumption)||3.50%||87,794|
|Real Inflation rate (assumption)||5.5%||199,934|
|Increase in property price||360,000|
|Increase in property price after adjusting for real inflation rate||160,066|
|Increase in property price due to real inflation rate (%)||55.54|
We do not have the inflation rate of Malaysia from 1977 until 2020 but for argument sake, we will use a prudent rate of 3.5%.
By compounding this 3.5% rate annually for 43 years, the minimum value of the property from RM20,000 in 1977 would have increased to RM87,794 in 2020.
But is this official inflation rate of 3.5% an accurate representation of what is actually experienced by the Rakyat?
Ask anyone and they will tell you that there is no way that the real inflation rate is only 3.5% per year. Most people would estimate a range from 5% to 6% and we will use 5.5% as a mid-point.
Now by compounding an annual real inflation rate of 5.5% from 1977 until 2020, the minimum price of the property should have increased from RM20,000 in 1977 to RM199,934 in 2017.
Hence, the net increase in property price after adjusting for this real inflation rate has been reduced from RM360,000 to only RM160,066 and the real inflation rate accounted for about 55.5% of the increase in the property price.
Any inheritance tax would be imposed on the estimated current market value of the estate including property. Thus, the beneficiary of such properties are effectively paying a tax on the inflation rate since acquiring the said property.
Inheritance tax will be imposed even if no ‘gain’ has been realised
It would be envisaged that any form of inheritance tax will be imposed for the transfer of the legal ownership of the assets (including properties) of the deceased to the beneficiaries.
However, in many instances, the beneficiaries may be still residing in the bequeathed property and did not realise any ‘economic gain’ (such as disposal) from the said property.
Using our example of the property bought by the late Mr Tan who bequeathed the property to his wife, who would have to pay an inheritance tax in order to inherit the property of her late husband.
This would really add to the financial burden of Mrs Tan who is already retired and just lost her husband. If Mrs Tan is unable to pay the inheritance tax, she risk having the said property seized by the government and end up homeless on the streets.
Inheritance tax is effectively imposing a double taxation and punishing years of hard work
It is the aspiration of every Rakyat to improve his or her economic condition and especially for those with children, they want to ensure that their children have a better start in life.
Parents make many sacrifices for their children to have surplus savings from their income after paying taxes and other living expenses in order to invest in assets that (including properties) that can yield returns in the future and these assets are often accumulated over a long period of time.
By imposing an inheritance tax on all the assets to be bequeathed to their beneficiaries, the Government is effectively punishing this segment of society by taxing them a second time. Why we say “taxing a second time” is because these people are just using their surplus savings which was derived from income that has already been subject to income tax.
Inheritance Tax is effectively sending the message to civil society not to work so hard or to save money for investments but just to have a ‘happy-go-lucky’ lifestyle and spend all that you earn as you will be taxed again when you die for any assets that you accumulate from your hard work.
No guarantee that inheritance tax will reduce the economic inequality gap
The main rationale for the support of inheritance tax is that such a tax can help to improve the economic inequality gap in Malaysia.
However, there is no guarantee that such an economic inequality gap can be reduced just with the introduction of an inheritance tax.
Income inequality is typically measured by using an economic model called the Gini coefficient ratio.
A value of “0” means perfect income equality where everyone has the same wealth and a value of “1” means perfect inequality where all the wealth in held by 1-person and everyone else holds none of the wealth.
A list of countries with inheritance tax and their respective Gini coefficient ratio are as follows:
|Country||Inheritance tax rate||Gini coefficient ratio|
|South Korea (2017)||50%||0.355|
As we can see from the above table, the Gini coefficient ratio of countries with inheritance tax varies by quite a big margin, with Germany with inheritance tax rate of 30% having lower Gini coefficient ratio of 0.289 vs countries with higher inheritance tax rate such as France with inheritance tax rate of 45% but with Gini score of 0.292.
South Korea with inheritance tax rate of 50% with Gini score of 0.355 and the USA with inheritance tax rate of 40% a ratio of 0.39.
Canada does not have any inheritance tax but yet has a relatively low Gini Coefficient ratio of 0.31.
This would imply that inheritance tax does not play a key role in reducing income inequality as the Gini coefficient ratio should be similar between countries with Inheritance Tax.
In addition, the Gini coefficient ratio of Malaysia of 0.407 is almost the same as the USA which has a ratio of 0.390. This means that Malaysia has managed to reduce its income inequality level to that of a developed country like the USA without needing Inheritance Tax.
There are many factors that have caused this economic inequality gap in any country including Malaysia such as lack of educational opportunities and loss of jobs due to globalization and industrialization. However, inheritance tax is definitely not the ‘magic bullet’ to solve this issue.
Increase the tax base through GST
One of the biggest problem in Malaysia is that the actual percentage of Rakyat who pay personal income tax is too small.
It was reported that in 2017, only 2.27 million people paid personal income tax out of population of 31.11 million.
Assuming that only 50% of the population fall within the working age, this is only 13.6% of the working population compared to say the United Kingdom where 56% of the working population pay income tax.
We would recommend that the government reintroduce the Goods and Service Tax (GST) as is a wide base and transparent consumption tax.
What made the GST so unpopular was mainly because it started off at a high 6% and not enough basis necessities were exempted.
We would recommend that the government to reintroduce the GST at a lower rate of say, 3% (which can be gradually increased) and to exempt more basic necessities especially food items.
A consumption tax such as GST is good as it increases the revenue of the government and also enables the government to tax everybody in the country including foreign workers who pay no income tax but also enjoys the resources of the country.
To ensure that the rakyat’s disposable income would not be significantly eroded, the government also needs to impose gradual reduction in income tax.
Although we have exemplified real properties as a type of asset to be subject to inheritance tax, the same argument is applicable for other type of assets.
If a tax payer worked very hard and paid all his taxes and used the remaining money to invest in various assets such as property, commodities and equities, it would be utterly unfair for these assets to be subject to an inheritance tax on the demise of the tax payer.
It is the aspiration of every Rakyat to want to improve his economic condition and to ensure that his future generation has a better start in life. Imposing an inheritance tax is akin to punishing those who managed to succeed. This will only demoralise the future generations and will reduce their motivation to further succeed in life.
As a developing country with the aspiration to one day join the ranks of a fully developed country, Malaysia must reward its citizens who can improve their own economic condition as this will ultimately lead to the improvement of the overall economy.
Imposing inheritance tax would really reduce the incentive to succeed and only encourage capital flight and migration of those who can and will succeed economically.
Datuk Chang Kim Loong is the Hon. Sec-Gen of the National House Buyers Association (HBA), a non-governmental and not-for-profit organisation.