man thinking about capital gains tax

22 Jan 2021

What could changes to Capital Gains Tax mean for businesses and individuals?

Potential Capital Gains Tax changes might change your financial planning and lending needs.

If we learned one thing in 2020, it is that nothing is certain and that’s true of tax changes rumoured to be landing in 2021. The government need to foot the bill for the significant economic fallout of the Covid-19 pandemic somehow, so it’s hardly surprising that members of the Treasury select committee are now considering changes to capital taxation. 

 

The potential for a change to capital gains tax (CGT) is being considered, following the first of two reports from the Office of Tax Simplification (OTS), at the request of Chancellor Rishi Sunak, with the second likely to follow early next year. If enacted, these changes will have a material impact on business leaders, higher rate taxpayers and investors alike. While nothing is a given, this article explores what the possible changes could mean for you at a high level. Some of the proposed changes are discussed in this article alongside some hypothetical examples.    

 

We recommend clients work with a tax specialist to further understand any changes which may impact your financial position. This article does not offer advice and the information about potential investments and services is designed for general use, and should not be considered personal to your circumstances.  

What are the potential changes to CGT allowance and CGT rates?

The current CGT rates are 10% on assets and 18% on property for basic rate tax payers and 20% and 28% respectively for higher and additional rate tax payers. The proposed changes include consideration to CGT rates coming more in line with income tax rates which currently stand at 20%, 40% and 45% for basic, higher and additional rate taxpayers respectively. 

 

Currently, you can realise gains of up to £12,300 within your CGT allowance and therefore no tax is paid on that element. It is suggested that this figure could be reduced to between £2,000 and £4,000.

 

In very simple terms, it is possible that:

 

  • Less of your taxable gains will be free from tax
  • The taxable gains you do have are likely to incur tax at a higher rate than at present

20%

Current CGT rate for additional rate payers

£2,000-£4,000

Potential new Capital Gains Tax allowance

45%

Current income tax rate for additional tax payers
What might business leaders need to think about in advance of any changes?

In April 2020, Entrepreneurs’ Relief (ER), which enabled company owners to pay  CGT at a lower rate when selling their businesses (subject to meeting qualifying conditions), was replaced by Business Asset Disposal Relief (BADR). Previously sellers qualifying for ER within the higher or additional tax brackets paid a reduced rate of 10% on lifetime gains of up to £10million, compared with the standard CGT rate of 20%. But BADR means such business owners now pay 20% CGT on anything above £1million. As a result, it’s now less financially attractive for clients to sell their business or business assets to meet cash flow requirements, so borrowing may prove an alternative source of cash flow. Certainly, over the past few months, there is an increase in M&A activity as business owners bring forward sales of their business in anticipation of potential changes to CGT.

 

It’s not only business owners who may feel targeted by changes to capital taxation. Private equity professionals, for example, have previously benefitted from certain types of carried interest being classed as capital gains, rather than income. In the case of an additional rate taxpayer, that’s the difference between being taxed at 28% opposed to 45%. If proposed changes come into play and CGT is brought closer into line with income tax rates, remuneration of private equity professionals will be impacted and this could make it more challenging to borrow from lenders who do not adopt a more holistic lending approach. This is certainly something to think about for those who are considering a property purchase and need to undertake a mortgage affordability assessment.

 

Changes to private equity and venture capital remuneration could also have a knock-on effect on entrepreneurial activity in the UK.

How could changes to Capital Gains Tax affect the world of property?

The rate of CGT payable on residential property (excluding primary residence) for higher rate taxpayers is currently 28%. Clearly if this is brought closer to income tax levels, some property investors might be less inclined to sell and more likely to release equity by borrowing against their property portfolios, making buy-to-let mortgages and solutions with higher LTVs attractive options. With the savings afforded by the Stamp Duty Land Tax holiday also ending in April, now is a good time to reassess your property portfolio, while also taking into consideration the tax implications any additional borrowing may have.  

London house
Potential property market changes

If Capital Gains Tax is brought closer to Income Tax levels, some property investors might be less inclined to sell and more inclined to release equity by borrowing against their property portfolios, making buy-to-let mortgages and solutions with higher LTVs attractive options.

What could this mean for investors?

Over the years, many of our wealth and investment clients have accumulated significant gains within their taxable investment portfolios. Whilst tax wrappers such as ISAs, SIPPs and offshore bonds have been widely used to shelter investments from tax, many clients still have taxable investments; therefore tax changes present significant challenges and are something that should be carefully considered and discussed. We saw similar theorising in the run-up to the 2019 election.  At that time, some of our clients took the pre-election speculation as an opportunity to crystallise some capital gains, primarily to hedge the risk of a change in tax policy resulting from a change in Government. We are again in a position where this is a major consideration for some.

 

A higher rate taxpayer would like to encash £200,000, on which there is a £100,000 gain, to help a family member buy a property. Current rules would see CGT payable on £87,700 of the gain as they could use the £12,300 allowance. This would then be taxable at 20% and therefore cost them £17,540. Under the proposed new rules and assuming the allowance was £3,000 - to use the average of the proposed figures - the calculation would be as follows:

Example: CGT payable on an investment for a higher rate tax payer

Under current rules:

  • Asset value: £200,000
  • Capital gain: £100,000
  • CGT allowance: £12,300
  • CGT payable: £17,540 - with CGT as 20% on £87,700

This would then be taxable at 20% and therefore cost them £17,540.

Under proposed new rules:

  • Asset value: £200,000
  • Capital gain: £100,000
  • CGT allowance: estimated £3,000*
  • CGT payable: £38,800 - with CGT at 40% on £97,000

This represents a significant potential tax increase of £21,260.

 

*the average of the proposed figures which are speculated but not confirmed

What are the potential changes to Capital Gains Tax on death?

Most assets inherited following someone’s death are received with a deemed value paid as the value at the date of death, rather than what was actually paid when the item was bought. A subsequent sale would therefore see CGT calculated based on the current value minus the value at the date of death (and any other allowable deductions). The new recommendations would see CGT payable based on the original purchase cost, not an uplifted basis.

Example: CGT payable on the sale of an inherited asset

Under current rules:

  • Inherited Value: £200,000
  • Cost to original purchaser: £100,000 – deemed irrelevant currently
  • CGT uplifted value on death: £200,000 

CGT would not be payable on an immediate sale on this as no gain is present – for example to raise funds to meet the inheritance tax due on the estate.  

Under proposed new rules:

  • Inherited Value: £200,000
  • Cost to original purchaser: £100,000 – now very relevant 
  • No CGT uplifted Value 

CGT Calculation £200,000 - £100,000 = £100,000, as a result of gain on an immediate sale

 

In the example above, the individual will have the potential to use any available CGT allowance and will then be taxed, potentially at income tax rates. For higher rate tax payers who have already used their CGT allowance, this would equate to a potential £40,000 CGT charge or could even see them go in to the additional rate tax band and suffer 45% tax on all or part of this payment. 

 

This represents a significant tax increase of £40,000. 

Is it time to think differently?

Of course, it is not suggested that wholesale changes should necessarily be made on the basis of these proposed changes, which are not guaranteed to take effect. However, for those with significant embedded capital gains within their taxable portfolios, those intending to pass on their investment portfolios to future generations, or those considering selling their business or buy-to-let properties, these changes may have a considerable impact in future tax years.

 

All things considered, this may be a good time to review your personal circumstances and investments within this context, especially for those who are higher rate taxpayers, as it may be appropriate to consider taking some gains this tax year under the current rules. 

Disclaimer: This article is for general information purposes only and any reference to Tax should not be used or relied upon as professional advice. It is based on regulations in effect at the time of publication and no liability can be accepted for any errors or omissions, nor for any loss or damage arising from reliance upon any information herein. It is advisable to contact a professional advisor if you need further advice or assistance as the tax implications can vary depending on an individual’s personal circumstances and may be subject to change in the future.

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