This is an important consideration for any financial planner when dealing with higher net worth clients. There are some financial planning opportunities which allow individuals to mitigate or defer some or all of a Capital Gains Tax bill.
What is Capital Gains Tax (CGT)?
In its most basic form, Capital Gains tax is a tax on the profit of something that you sell. It is important to remember that it is only the profit (or “gain”) that is taxed, not the amount of money you receive from the sale (or “disposal”).
When does Capital Gains Tax Apply?
You may be liable to pay capital gains tax if you;
- Sell something
- Swap something
- Give something away or transfer ownership
- Get insurance compensation for it (for example something that was lost, stolen or destroyed)
The above circumstances are known as disposals for the purpose of capital gains tax rules.
What is exempt from Capital Gains Tax?
Generally speaking, the following items are exempt from being classed as a disposal for the purpose of Capital Gains Tax;
- Any personal items worth less than £6,000
- Your car – regardless of value
- Your main home – subject to the following conditions;
- you have one home and you’ve lived in it as your main home for all the time you’ve owned it
- you have not let part of it out – this does not include having a lodger
- you have not used part of it for business only
- the grounds, including all buildings, are less than 5,000 square metres (just over an acre) in total
- you did not buy it just to make a gain
- Any disposals to your spouse or charity
- Any gains on assets held within an ISA or Pension
- Any gains from betting or lottery wins
- UK Government Gilts and Premium Bonds
When do I pay Capital Gains Tax?
Most other assets are subject to Capital Gains tax on disposal, including business assets, any home that is not your main home, shares (not in an ISA or Pension), personal possessions worth more than £6,000.
Capital Gains Tax Allowance
When you face a Capital Gains Tax bill it is important to remember that everyone has a Capital Gains Allowance, which is £6,000 for the tax year 2023/24, the allowance is reducing again to £3,000 from tax year 2024/25. This capital gains tax allowance is deducted from the gain before working out the amount of capital gains tax due.
Capital Gains Tax Rates
The rates are fairly straight forward. Most items are subject to a Capital Gains Tax rate of 10% or 20% depending on whether the taxable gain (once the above allowance has been deducted and the taxable element is added to the rest of your income for the tax year) falls within the basic or higher/additional tax brackets.
Residential property (which is not your main home) is subject to a capital gains tax rate of 18% or 28% for the tax year 2020/2021 – again depending on whether the taxable gain falls with the basic rate tax band or the higher/additional bands.
Capital Gains Tax Example
Let’s use our imaginary client David in this example.
So, David has an income of £20,000 a year. He sells a valuable painting for £30,000 which he bought for £10,000 some time ago. He has made a profit of £20,000 on disposal. David now deducts his allowance of £6,000 (for tax year 2023/24) from the profit to give a taxable gain of £14,000.
When added to the rest of his £20,000 income he is still within the basic rate tax band of £50,000 (for tax year 2020/21) and so pays 10% tax on the £14,000 gain (or £1,400).
Let’s take David through a slightly more complex calculation bridging both tax bands. Here David has the same income of £20,000 a year. Instead of the painting above, he now also sells a second home for £180,000 which he bought for £110,000. David spent £15,000 on stamp duty, legal fees and renovation costs before he sold the home.
The profit (or gain) for the purpose of Capital Gains Tax is £55,000 (£180,000 sale price, minus £110,000 purchase price, minus £15,000 on other costs).
We now apply David’s allowance of £6,000 (for tax year 2023/24) giving him a taxable gain of £49,000.
£30,000 of the taxable gain will be taxed at 18% as it is resident property and falls within his basic rate. The remaining £19,000 falls within the higher tax bracket and is taxed at the rate of 28% giving a total Capital Gains Tax bill of £10,720
When is Capital Gains Tax due?
For every disposal during a tax year, apart from residential property, you will have until 31st January in the following tax year to report the disposal (by self assessment) and pay the tax owed.
For example, in David’s scenario above – his gain from the valuable painting if sold in May 2020 would need to be reported and paid by 31st January 2022.
Residential property now has much tighter and more stringent timescales than any other disposal. For residential property capital gains, the tax must be reported and paid within 30 days of the completion of the sale. This is done by way of a residential property tax return.
Capital Gains Tax Financial Planning
By seeking financial advice, there are various ways to mitigate a Capital Gains Tax bill. For example, you can use past losses to offset gains, so keeping accurate records is vital. As you can transfer between spouses free of capital gains tax, transferring or splitting assets between a wife and husband can be useful in order to fully utilise capital gains tax allowances and reduce the tax payable. More complex capital gains tax planning involves the use of HMRC approved schemes, such as Enterprise Investment Schemes, Venture Capital Trusts and Seed Enterprise Investment Schemes. For those selling businesses or shares in business, Business Relief currently applies on meeting certain conditions. Lesser know reliefs such as Agricultural Relief can also apply depending on your situation.
For more information or a chat about how we can help you plan for Capital Gains tax, please get in touch with one of our financial advisors.
This brief guide was written by Craig Croft-Rayner, an independent financial advisor at Milestone Financial Planning. It is a for guidance only and is not in of itself financial advice. Should any of the above apply to you, please get in touch for a consultation at no cost.