Tax Factor

17 November 2010

Capital Gains Tax & Entrepreneurs’ Relief following 22 June 2010 budget

Important changes were made in the June 2010 Budget to the rates of Capital Gains Tax chargeable and the amount of Entrepreneurs' Relief available. Whilst the rate increase was not welcome, although not unexpected, the Budget announcements were not all doom and gloom. In this article we look at some of the opportunities the changes have brought.

What has changed?

In his first Budget speech Chancellor George Osborne included the following announcements:

Change to the rates of Capital Gains Tax

1. Capital gains on disposals made between 6 April 2010 and 22 June 2010 will be charged to tax at the previous year's rate of 18%.

2. But gains made after 22 June 2010 may be charged at 18% or 28% depending upon the level of total taxable income and the level of post 22 June 2010 capital gains in the year.

Changes to Entrepreneurs' Relief

1. From 6 April 2010 the amount of lifetime gains that can qualify for relief was increased to £2m.

2. From 23 June 2010 this limit is increased to £5m.

The lifetime limit applies to gains made after 6 April 2008. Any number of gains, provided they all meet the conditions for relief, can qualify.

Although there have been changes to the method of calculating the relief available the effect is still to give a reduced tax rate of 10% on gains up to the new limit.

Perhaps the most important point to note regarding Entrepreneurs' Relief is that this can now be worth up to £1,800,000 per couple compared to just £160,000 when first introduced. It therefore pays to ensure assets are structured correctly to benefit from the maximum possible relief.

The increased limit available may also mean that previous advice will need to be revisited. For example, it may have been that the full limit was being utilised by a personal company shareholding and so it was not necessary to consider whether property owned by the individual and used by the company could qualify also. With the increased limits it may now pay to review rent being charged so as to benefit from Entrepreneurs' Relief.

Annual Exemption

This remains unchanged at the 2009/2010 level of £10,100.

Opportunities and pitfalls

With gains for the same year being taxed at different rates it would be advantageous to be able to set the Annual Exemption and any losses arising against the gains on which the highest rate of tax is to be paid. Fortunately this is exactly what the new legislation permits!

The first step in the process of calculating a capital gains tax (CGT) bill for 2010/2011 is to start with income. If the taxable income does not utilise the entire basic rate band then any unused amount can be set against post 22 June 2010 gains.

Example

In the following example we assume that £5,000 of the basic rate band is available to set against gains and that our taxpayer has gains arising both pre and post 22 June 2010. He qualifies for Entrepreneurs' Relief on one of these and has also made a loss on one disposal

Please note that in this calculation:

1. The basic rate band, losses and the Annual Exemption have been offset against the gains chargeable at 18% as this is more beneficial.

2. An Entrepreneurs’ Relief gain after 22 June 2010 uses up the basic rate band first but as this gain arises prior to that date the balance is available to utilise in the most beneficial way.

3. If our taxpayer does not expect to have sufficient income to pay higher rate tax in 2011/2012 then he may benefit by deferring part of the disposal in March 2011 until after 5 April 2011 and paying CGT on all or part of this at only 18%. (But see below regarding dates on which gains are deemed to arise.)

4. Entrepreneurs’ Relief needs to be claimed.  If gains are likely to be made up to the lifetime limit then it may be more beneficial not to claim the relief on gains made prior to 22 June 2010 and pay tax on these at 18% instead, leaving the unused relief to be set against later gains which would otherwise have incurred the higher tax charge of 28%.

Determining dates of disposals

1. Remember that capital gains are deemed to arise on the date of an unconditional exchange of contracts and not on the completion date, which may mean that gains fall in period prior to 23 June 2010 when the flat rate of 18% applies.

2. There are special rules for determining dates of gains for non domiciled individuals, individuals with offshore trusts and individuals returning to the UK with a deferred gain. This is a complex area and advice should be sought.

Special points on rates

1. Trustees and personal representatives pay capital gains tax at a rate of 28% from 23 June 2010 unless they are able to claim Entrepreneurs’ Relief.

2. Any deferred gain which becomes chargeable to tax after 22 June 2010 will be liable to the new CGT rates.

3.   If non domiciles use the remittance basis then post 22 June 2010 gains will be charged at 28%.

4. The link between the level of income and the rate of capital gains tax has been re-established.  It is therefore sensible for married couples and civil partners to review their combined position and also to consider the effect of pension contributions and charitable donations in relation to capital gains tax arising.

Elections

Company reorganisations usually result in the new shares being deemed to have the same base cost as the old shares with no CGT being payable at the time of exchange.  If the new shares do not qualify for Entrepreneurs’ Relief but the old shares do then an election can now be made to pay CGT on the disposal of the old shares so that the benefit of Entrepreneurs’ Relief can be claimed. The base cost of the new shares will then be their value at the date of exchange.

In conclusion

The changes to the rates of CGT and the implications for Entrepreneurs’ Relief have inevitably created more complex computations and as a result some perhaps unexpected outcomes.  Careful planning is therefore needed and advice should ideally be sought prior to making any disposals.

Your usual Wilkins Kennedy contact would be pleased to talk through the implications of these changes for you.