Capital is wealth in the form of money or property that’s used to create more wealth. A gain is an increase in value of that wealth. Capital Gains Tax (CGT) applies when you sell or give away that asset. This is referred to as making a disposal. Assets that attract CGT include properties, not usually the house that’s your main residence, stocks and shares, paintings and other works of art. CGT isn’t due when you die and pass assets on, but they may attract Inheritance Tax
A gain occurs if you sell an asset for more than you pay for it, for example, if you purchase shares for £1,000 and later sell them for £3,000 you’ve made a gain of £2,000 (£3,000 - £1,000). This will be the amount liable to capital gains tax. If you were to give an asset away or sell it at a lower price in order to give away part of the value, it is the worth of the asset that is considered. An illustration of this would be having bought a house a number of years ago that you then decide to give to your child. You originally paid £150,000 and the house is now worth £210,000 so you have made a gain of £60,000 for CGT purposes. Should your child pay £70,000 for the house, you are still considered to have made a £60,000 gain. CGT doesn’t apply to transactions between spouses and civil partners although any sale on of that asset would be liable.
As outlined above an asset can be disposed of either by sale or by gift for less than its market value, but the market value replaces any actual consideration paid. You pay CGT on your net gain so you can offset your expenses against your gains. The following elements help reduce the amount of chargeable gain:
- Incidental cost of acquisition (e.g. legal fees)
- Expenditure to enhance the value of the asset (e.g. building an extension)
- Incidental costs of disposal (e.g. agents fees)
- Tax relief and allowances
CGT applies when assets are disposed of by individuals and doesn’t apply to companies – they pay Corporation Tax on any gains made. The CGT rate depends on the type of asset sold and the level of your personal income in the year in which the asset was sold. The rates are 18% or 28%. From April 2016, the basic rate of capital gains tax has been reduced to 10% and the higher rate reduced to 20%. However, the new rates do not apply to disposals of residential property.
From April 2019, capital gains due on the sale of a residential property will have to be paid on account within 30 days of completion. This will also affect second homes as well as buy to let properties.
Annual exemption and tax relief
An annual exemption of £11,100 for 2016/2017( £11,100 for 2015/16) is available to individuals. Total gains made in the tax year up to this amount are exempt. Any unused annual exemption is lost and cannot be carried forward or transferred to another person.
There are several tax reliefs which can reduce the chargeable gain including:
Relief on replacement of business assets: This allows the deferment of CGT business asset gain, where the asset is matched with the replacement of a new business asset in the period commencing one year before and ending three years after the disposal.
Gift relief: This provides relief on some gifts of business assets or gifts made into trusts. The tax does not become payable until the person or trustee who receives the gift disposes of it.
Entrepreneurs’ Relief: This allows individuals to claim relief on qualifying gains made on the disposal of all or part of a business, the assets of a business after it has stopped trading or shares in a company. It applies for the years 2008-09 onwards and there is a maximum lifetime limit of £10 Million relief you can claim. The qualifying rate is 10%.
Any capital losses made on a chargeable transaction are netted off against any capital gains made in the same tax year. They are applied before the annual exemption. Unused capital losses are carried forward against future capital gains. They cannot normally be carried back.
Capital Gains Tax exemptions
Some assets are exempt for capital gains purposes so you don’t pay CGT on:
- The sale of your main or only residence, although it can become partly chargeable in some circumstances, for example, if you have let out or used part of the premises for business purposes.
- Transfers of asset between husband and wife or civil partners. Such transfers are treated as being made at no gain/no loss.
- Most possessions whose value decreases over time.
- Non-wasting and business possessions where the disposal proceeds do not exceed £6,000.
- Private and classic cars.
- Gifts to charity and certain amateur sports clubs.
- SAYE contracts, saving certificates and premium bonds.
- Betting winnings and prizes including lottery.
- Compensation for damages for personal or professional injury.
- Some compensation payouts for mis-sold pensions.
- Life assurance policies in the hands of the original owner or beneficiaries.
- Company reorganisations and takeovers whether there is a share for share exchange.
Payment of Capital Gains Tax
Capital Gains Tax is paid through the self-assessment system and gains and losses must be declared on your Self-Assessment tax return. The tax is payable by 31 January following the tax year in which the gain arose.
If you do not qualify for any of the reliefs above, your tax rate will apply to the gain after deducting your annual exemption. The rate will be either 10% in 2016/17 (18% as a Basic Rate Tax payer in 2015/16) or 20% (28% as a higher rate tax payer in 2015/16). As noted above, however, the prevailing rates in 2015/16 will still apply if you dispose of residential property.