Business Taxation - Capital Gains Tax Calculation (7) Flashcards
How is CGT calculated?
Capital Gains Tax Calculation: CGT is a tax levied against individuals on profits made on chargeable gains during the tax year (Taxation of Chargeable Gains Act 1992).
(1) Tax Year: 6 April to 5 April.
(2) Charities: Charities are exempt from CGT.
(3) Chargeable Assets: Taxed on sale of fixed assets and property, i.e. land, debts, leases, unless excluded.
Exclusions: Excludes: a) cash; b) chattels worth £6,000 or less; c) personal injury damages; d) main residence property.
(4) Calculation: There are 6 steps: 1) identify chargeable disposal; 2) calculate chargeable gain; 3) deduct reliefs; 4) aggregate total gain or loss; 5) apply annual exemption; 6) tax.
What is Step 1: Identify Chargeable Disposal?
Chargeable Disposal: Chargeable disposals include the whole or partial sale or gift of a fixed chargeable asset. Gifts on death are not chargeable.
What is Step 2: Calculate Chargeable Gain?
Chargeable Gain: Tax is levied on the gain in value between acquisition and disposal, minus any relevant expenditures.
(1) Disposal: This is the value of the sale, if sold, or the market value if gifted or sold at an undervalue.
(2) Acquisition: Subtract the value on acquisition. This is the purchase price if bought, the market value if gifted, or the probate value if inherited.
(3) Acquisition Costs: Subtract costs wholly and exclusively spent on acquisition.
Fees: Costs of acquisition fees, such as conveyancing and legal fees.
Provision: Costs of providing the asset, such as building fees if building a house.
(4) Subsequent Costs: Subtract subsequent costs spent on preserving or enhancing the asset.
Preservation: Costs wholly and exclusively spent in defending or establishing title to asset.
Enhancement: Costs wholly and exclusively incurred in enhancing the asset, i.e. building a conservatory, not merely maintaining, repairing or insuring the asset.
(5) Disposal Costs: Subtract costs wholly and exclusively spent on disposal, i.e. legal fees.
(6) Indexation: Certain disposals must account for value derived from inflation, which must be deducted as well.
Aggregate Loss
Aggregate Loss: If taxpayer makes a total loss between acquisition and disposal, this may be offset against other gains (below).
Part Disposals
Part Disposal: Where only part of an asset is disposed of, gains and expenditures must be apportioned. For example:
(1) Acquisition: Asset purchased for £100,000, and is now worth £400,000.
(2) Disposal: Half of the asset is sold for £200,000. As such, the gain is £200,000-£50,000 = £150,000.
What is step 3: deduct reliefs?
Deduct Reliefs: A number of CGT reliefs are available. Some are automatic, others must be applied for.
Business Asset Disposal Relief
Business Asset Disposal Relief: Gains on qualifying business assets are charged at 10% only.
(1) Business Disposal: Sale of an unincorporated business as a going concern, or sale of business assets on cessation, qualify if interest was owned for at least 2 years (and occurs within 3 years of cessation).
(2) Share Disposal: Disposal of company shares qualify if the following conditions are met for the whole of 2 years up to and including date of disposal:
Trading Company: Company is a trading company.
Personal Company: Disposer held 5% ordinary shares and 5% voting rights in company.
Employer Company: Dispose is employed by the company on disposal.
Beneficial Right: Disposer is entitled to at least: a) 5% profits and assets on winding up; or b) 5% proceeds of sale if ordinary share capital was sold.
(3) Application: Taxpayer must apply for relief by 31 January in the second tax year from disposal. It can be used in conjunction with the annual exemption.
Rollover Relief
Rollover Relief: Unincorporated business can ‘rollover’ a gain made on one asset by investing it into the purchase of another asset. These rollovers may continue indefinitely until an asset is definitively sold.
(1) Qualifying Asset: The asset must be a fixed business asset, such as land, goodwill, machinery.
(2) Disposal: The asset must be disposed of by a sole trader, partnership, or 5% shareholder (if asset used by the company).
(3) Reinvestment: The proceeds must be reinvested in the purchase of another qualifying asset, either 1 year prior and up to 3 years after sale (subject to HMRC extension).
(4) Application: Taxpayer must apply for relief within 4 years of the tax year in which the original asset was sold or the new asset purchased, whichever is latest. Cannot be used in conjunction with annual exemption.
(5) Example: Warehouse is sold at a £3,000 gain. A new warehouse is purchased for £100,000. The £3,000 gain is rolled over, treating the new warehouse as worth £97,000. When the new warehouse is sold, the gain is larger.
Hold-Over Relief on Gifts
Hold-Over Relief on Gifts: Gains made on gifts, or the gift element of a sale at an undervalue, can be rolled over into the acquisition value of the donee, to be taxed on the donee’s later disposal.
(1) Qualifying Asset: The gift must be a qualifying trade asset or certain company shares.
Trade Asset: Assets used in the donor’s trade.
Company Shares: Company shares of a trading company, provided it is: a) unlisted (other than AIM); or b) the donor owned at least 5% voting shares on disposal.
>Relief does not apply on a gift of shares to a company.
(2) Application: Both donor and donee must apply for relief within 4 years of the tax year of disposal. Cannot be used in conjunction with annual exemption.
(3) Example: Donor gives shares to donee representing £3,000 gain. Donee disposes of it four years later, having gained a further £2,000 in value. CGT is levied on the total £5,000 gain.
Incorporation Relief
Incorporation Relief: Gains made on sale of an unincorporated business interest may be rolled over into the value of shares used to fund the transaction.
(1) Qualifying Sale: Unincorporated business must be sold as a going concern, which includes incorporation and whole acquisition. Relief applies to the portion of interest that is purchased in shares in the acquiring or incorporated company.
(2) Application: Relief applies automatically unless opted out. Cannot be used in conjunction with annual exemption.
(3) Example: Sole trader sells business to company for a £3,000 share offering. The sole trader sells the shares four years later, having gained a further £2,000 in value. CGT is levied on the total £5,000 gain.
Spousal Rollover Relief
Spousal Rollover Relief: Cohabiting spouses may rollover gains made on a transfer of assets from one spouse to the other.
(1) Purpose: Rollover is useful where one spouse has lost their annual exemption or is a higher rate taxpayer. They can transfer the asset, and the other spouse can sell it making full use of their exemption or standard rate.
(2) Example: Husband wishes to sell asset representing £3,000 gain, but has no annual exemption and is a higher rate taxpayer (£3,000 at 20%). They can transfer it to their wife to sell (£6,000 AE and only 10% in any case).
Private Residence Relief
Private Residence Relief: Gains made on primary residences are exempt, if the taxpayer occupied it as their main property throughout their period of ownership (excluding 9 months prior to disposal). Gains are taxed on the surplus of grounds exceeding 0.5 hectares.
What is Step 4: Aggregate Gains and Losses?
Aggregate Gains and Losses: Capital gains and losses from all sources must be aggregated to arrive at a total figure.
Unabsorbed Losses
Unabsorbed Losses: Unabsorbed losses may be set off against future gains indefinitely as such:
(1) Current Year: Losses must be first applied against current gains until the gains are exhausted. This applies prior to annual exemption, so can have the effect of the annual exemption being lost.
(2) Carry Forward: Remaining losses can be carried forward indefinitely. These apply up to the annual exemption, meaning the annual exemption can still be used. These can be applied strategically, meaning used against assets with a higher tax rate first (i.e. residential property).
What is Step 5: Apply Annual Exemption?
Annual Exemption: Taxpayers may apply an annual exemption to their total gains and losses. This can also be applied strategically against the highest-taxed assets.
(1) Rate: The exemption is currently £6,000 a year. It cannot be carried forward.
(2) Exception: Annual exemptions cannot be used in conjunction with rollover, hold-over or incorporation relief.
What is Step 5: Apply Tax Rate?
Tax Rate: The tax rate differs by the rate of income tax paid by the taxpayer, and the type of asset. If CGT pushes a taxpayer from the standard rate to the higher rate, then gains are split proportionately between each.
(1) Standard Rate: Standard rate income taxpayers are charged on any gains up to £37,700 (accounting for income) at 10%. Non-exempt residential properties are charged at 18%.
(2) Higher Rate: Higher rate income taxpayers are charged on any gains at 20%, and non-exempt residential properties at 28%.
(3) Example: Taxpayer has £30,000 taxable income, and £10,000 chargeable gains. The first £7,700 of the chargeable gains will be charged at standard rate, and the remainder is pushed into the higher rate.
Trustees and Personal Representatives
Trustees and Personal Representatives: Trustees and PRs are charged at the higher rate for both general (20%) and residential (28%) sales, for sale of estate assets (not gifts on death). The gain is calculated from the market price on death.
Business Asset Disposal Relief
Business Asset Disposal Relief: Qualifying business asset disposal relief gains are charged at a flat rate of 10% irrespective of the taxpayer’s rate.
(1) Effect: These assets are taxed first. This can have the effect of pushing other assets into the higher rate.
(2) Maximum: This relief is subject to a lifetime maximum of £1,000,000 relief.
