Owners of second homes and investors should move quickly if they plan to sell this year, following the news that the Government has confirmed in the Coalition Agreement that it will raise the rate of Capital Gains Tax (CGT) for non-business assets in its summer emergency budget.
It means that gains on non-business assets will be taxed at rates "similar or close to those applied to income" according to the announcement, which means a rate of 40% or 50% for top earners. The rise will help the Government to fund what it describes as "a substantial increase" in the income tax personal allowance from April 2011.
The new rate of CGT will be introduced in the new Government's emergency budget, which is likely to be in late June or early July. What is not known is when the increase will take effect - it could be backdated to take effect from 6th April 2010, or on the day of the budget, or on 6th April 2011.
As it is unlikely that the new rate will be effective from 6th April, because that would amount to retrospective legislation, investors and their advisors are hoping to take advantage of the run-up to the budget to prepare for the change.
Who will be affected by the rise?
The worst hit will be those who own taxable assets which cannot be sold in part. Owners of share portfolios who need to raise cash can usually manage their CGT liability by selling some shares that are showing a loss at the same time as selling shares that have made a gain, so that the one offsets the other. The owner of a buy-to-let property or a second home, by contrast, cannot sell a portion of the property; it's all or nothing, and a property that has been owned for the last ten years or more is likely to be showing a considerable gain.
What can be done?
If the new rate takes effect retrospectively, nothing can be done; however, if the change will not take effect before the summer budget, there are steps that investors should consider if they are likely to be affected by the change.
For anyone in the process of selling an investment property or second home, the best advice is to push the sale through before budget day; a disposal for CGT purposes occurs when a binding and unconditional agreement for sale has been entered into, so as long as contracts are exchanged before the budget, it does not matter if completion takes place later.
Tax payers who intend to sell but who do not think that contracts can be exchanged before the budget day should consider selling the property at its current market value to a trust established for this purpose. The sale to the trust would give rise to an immediate CGT charge at 18%, but when the trust eventually sells the property, it would only pay CGT on any gain made since the sale to the trust. This could be a useful tactic also for a tax payer who does not wish to sell in the near future but who owns a property that is carrying a large gain, especially if the tax payer would otherwise be paying CGT at 50%.
Said Cheryl Page, tax expert with Ward Gethin: "Taking a hit and paying CGT now may well be the best move for many people. If you want to take action to limit the effect of what is predicted to be a massive rise in CGT rates, you must act immediately. It is important to complete the arrangements before the budget because, even if the increase does not take effect until 6th April 2011, the budget could well introduce anti-avoidance measures to prevent actions such as selling assets to a trust between the budget and the end of this tax year."
Government policy on CGT seems to fluctuate more than on any other tax. When it was originally introduced in the 1960s, it had its own rate which was lower than income tax rates. Tax was charged on the increase in value between purchase and sale after allowing for the costs of sale and of any improvements.
In the 1980s, following the rampant inflation in the 1970s, Mrs Thatcher's government brought in indexation allowance, which meant that gains attributable to inflation were not taxed. In the 1990s indexation allowance was scrapped and replaced by tapering relief which meant that, the longer someone owned an asset, the less tax they paid. At the same time CGT rates were brought into line with income tax rates; there was speculation that CGT would soon be axed and that gains would be taxed as if they were income. However, a few years ago, policy changed again: tapering relief was scrapped and, as a sweetener, the rate of CGT was dropped to 18%.
Whilst most commentators have been saying that this low rate of tax is too good to last, an increase in the tax rate will mean a return to taxing gains at the same rate as income, but without the benefit of either indexation allowance or tapering relief, and this at a time when inflation is showing signs of rising.
For further advice on Tax Planning issues, please contact a member of our Tax Planning department on 01553 660033.
This article aims to supply general information, but it is not intended to constitute advice. Every effort is made to ensure that the law referred to is correct at the date of publication and to avoid any statement which may mislead. However, no duty of care is assumed to any person and no liability is accepted for any omission or inaccuracy. Always seek our specific advice.
