Our recent briefing outlined the changes to capital gains tax (CGT) covered in the Pre-Budget Report (PBR) in October and the proposals for the introduction of a new relief – entrepreneurs’ relief – which the Chancellor announced in January. In this issue, we want to draw your attention to the impact that some of the proposed changes may have on you so that you can consider whether you should take advice on ways of minimising any adverse effects. Firstly, a note of caution. The CGT changes and the new relief are, at this stage, only proposals. It seems likely that they will be implemented but we will not know this for sure until the Finance Bill receives Royal Assent (which will be before the end of July). The provisions may change and there can be no guarantee that action taken now on the basis of the existing proposals will have the intended effect. On the other hand, waiting until the proposals have been implemented is not an option as, if any action has to be taken, it must be taken before 6 April 2008.
The rate of CGT
If the proposals are implemented in their current form, there will be a new flat rate of CGT of 18 per cent, which will take effect from 6 April 2008.
For some taxpayers, notably higher rate taxpayers holding assets that do not qualify for business asset taper relief, this will be good news as their rate of CGT will go down from
40 per cent (or 24 per cent if the assets qualify for the maximum non-business asset taper relief) to 18 per cent. If you are in this category, it may be worthwhile, from a CGT perspective, deferring any impending disposal until after 5 April. Don’t forget, however, to factor into any calculation the impact of the loss of indexation relief on disposals after 5 April – there is more on this subject later in this note.
For other taxpayers, principally taxpayers with assets that qualify for the maximum level of business asset taper relief, the introduction of the flat rate of CGT will represent a significant increase in the tax rate – from 10 per cent to 18 per cent. Taxpayers in this category may like to consider bringing forward a disposal to before 6 April. If a disposal to a third party is not an option, a disposal to a family member or to a trust may be feasible. It may be possible to structure a disposal in such a way that the date of the disposal for CGT purposes falls the “right” side of the April deadline, although the disposal is not actually finalised on that date.
The purpose of indexation allowance was to offset the effect of inflation. In 1998, taper relief was introduced but indexation allowance continued to apply to assets held for the period between 1982 and 1998. Under the PBR proposals, indexation allowance will be abolished in April 2008. This could have a significant impact for some taxpayers.
For example, an asset acquired in 1982 and disposed of before 6 April 2008 will benefit from the full extent of indexation allowance, which will increase the base cost of the asset by over 100 per cent. If the base cost of an asset is increased, the gain will, of course, be decreased and the CGT payable will be reduced.
It may be feasible to “bank” the indexation allowance on an asset by transferring the asset to a spouse/civil partner before 6 April 2008. There is no CGT payable on transfers of assets between spouses/civil partners and the spouse/civil partner will take the asset with a base cost inflated by the relevant level of indexation allowance. So, on a subsequent disposal by the spouse/civil partner, s/he will have the benefit of a raised base cost – the amount of the gain will be lower and there will be less CGT to pay. An alternative may be a transfer of an asset to a trust – by claiming hold over relief, an immediate charge to CGT could be avoided and it would have the same effect, for indexation allowance purposes, as a transfer to a spouse/civil partner.
It is, of course, essential to think carefully about the wider impact of any transfer of an asset. Reducing the CGT burden may be an attractive prospect but it may be considerably less attractive if it exposes the taxpayer to an inheritance tax liability and it results in the taxpayer losing ownership and control of an asset that s/he wants and/or needs to retain.
How can we help?
This briefing covers some of the issues that are likely to affect a significant number of taxpayers. There are other implications of the proposed changes that will affect individuals and trustees and on which we would be happy to advise.
We strongly recommend that individuals or trustees holding assets that would qualify under the existing rules for business asset taper relief, or that would benefit from a significant level of indexation allowance, should take advice on what action, if any, they could or should take before 5 April 2008.