Why the archived “Inheritance tax” is not good for Malaysia

The National House Buyers Association (HBA) lend their thoughts on the issue at hand.

HBA aims to fight for house buyers’ rights and to create a level playing field for the average house buyer against the housing industry giants such as developers and banks/ financial Institutions.

Here at HBA, we try to focus on issues and matters that relate directly to house buyers or house buyers’ rights and refrain from commenting on matters that fall outside our aims and objectives or “area of expertise”. However, there is a recent issue which we cannot in good conscience remain silent on it – HBA wants to add its views on the archived “inheritance tax” that the Government may impose.

The average rakyat’s largest component of the wealth will be in the form of properties. As there are no details yet on the proposed inheritance tax, HBA is assuming that the proposed taxation will capture all classes of assets to be bequeathed to the beneficiaries’ including properties. Hence, we will try to focus our arguments against inheritance tax by using properties as an example.

Why is Inheritance tax a problem?

1. 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 official 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:

Mr Tan bought a property in 1977 for about RM20,000, he subsequently got married and stayed in the same property until his demise in 2017. At the time of his demise, the value of the property is estimated to be RM350,000 and Mr Tan had left a will for the property to be bequeathed to his wife.

While it may seem very impressive for said property to increase in value by RM330,000 (or 16.5 times), we must remember that this appreciation occurred over a span of almost 40 years. We have worked out that the compounded annual increase for this property from 1977 to 2017 is 7.42%. 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 borned by the rakyat.

Now consider the impact inflation has on property prices:

We do not have Malaysia’s inflation rate from 1977 until 2017 but for argument sake, we will use a prudent rate of 3.5%. By compounding this figure annually for 40 years, the minimum value of the property from RM20,000 in 1977 would have increased to RM79,185 in 2017.

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 say a range from at least 5% to 6% and we will use 5.50% as a mid-point.

Now by compounding an annual real inflation rate of 5.50% from 1977 until 2017, the minimum price of the property should have increased from RM20,000 in 1977 to RM170,226 in 2017. Hence, the net increase in property price after adjusting for this real inflation rate has been reduced from RM330,000 to only RM159,734 and the real inflation rate accounted for about 51.6% of the increase in the property price.

However, it is envisaged that any inheritance tax would be imposed on the estimated current market value of the property.

2. Inheritance tax will be imposed even if no ‘economic 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 realize any economic gain (such as disposal) from said property.

Using the example of property bought by the late Mr Tan who bequeathed said property to his wife; Mrs Tan would have to pay an inheritance tax in order to inherit the property of her late husband and this would really add to her financial burden, considering that she is retired and just lost her husband. If Mrs Tan is unable to pay the tax, she risks having said property seized by
the government and might end up homeless and on the streets.

3. 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. 

This because these people are just using their surplus savings which were 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 ‘happygo-lucky’ lifestyle and spend all that you earn as you will be taxed again anyway when you die for any assets that you accumulate from your hard work.

4. There is 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 by this tax introduction.

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 is held by 1-person and everyone else holds none of the wealth.

A list of countries enforcing inheritance tax and their respective Country ‘Gini coefficient ratio’ for 2015 are as follows:

As we can see from the table above, the Gini coefficient ratio of countries with inheritance tax varies by quite a big margin, with Germany having a ratio of 0.289 vs the USA’s 0.390. 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, Malaysia’s ratio of 0.401 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 requiring 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.

5. There are other ways to increase tax revenue to reduce income inequality

For past few years, HBA has been warning the government that property prices are increasing too rapidly and becoming unaffordable to the majority. The increase in property prices also has a spillover effect on the overall cost of living as business owners need to increase their prices to cover increases in rentals caused by an increase in property prices. This in turn, will worsen the income inequality gap for the lower income segment.

i) Increase stamp duty on transfer of properties for third and subsequent property

The current stamp duties payable for the transfer of property are as follows:

The current low stamp duty rate has been abused by property speculators. Based on a property value of say RM600,000, the stamp duty payable of RM12,000 is calculated as follows:

The rate of stamp duty payable is the same regardless of the number of properties bought or held. As such, this low stamp duty rate has been abused by property speculators to accumulate multiple properties and it has artificially pushed up prices.

Accordingly, HBA has proposed that current stamp duty rate be maintained for the first 2 properties. However, for the third and subsequent property, HBA proposes that the stamp duty be increased as follows:

HBA’s proposal will not affect the majority of house buyers who can only afford to buy 1 house for their own stay and perhaps if they are lucky enough, to buy a second house for long-term investment. This move can also increase the government’s revenue through the increase in stamp duty revenue.

ii) Increase Real Property Gains Tax for third and subsequent property The current Real Property Gains Tax (RPGT) is the same regardless of number or properties disposed and does not differentiate between a genuine long-term investor or owner and a property speculator.

As a result of low entry-exit to dispose of a property, speculators have taken advantage of low RPGT and able to acquire and dispose multiple properties at thesame time, this deprives genuine house buyers the opportunity to acquire those houses.

Accordingly, HBA proposes that the current RPGT be maintained for the first 2-properties but increased for the third and subsequent property as follows:

Again, HBA’s proposal will not affect the majority of house buyers who can only afford to buy 1-house for their own stay and perhaps if they are lucky enough, to buy a second house for long-term investment. This move can also increase the revenue of the Government through the increase in RPGT.

Conclusion

Although HBA has gauged through real properties as a type of asset to be subject to inheritance tax, the same argument is applicable for any other type of assets to be subjected to inheritance tax.

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 demoralize 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.