Simplified capital gains tax makes it easier for everyone to calculate their tax liability

The surprise announcement in the pre-Budget report that the Labour Government has abandoned its flagship policies on capital gains tax in favour of a simplified regime, which taxes gains at a flat rate of 18%, took everybody aback.

At a stroke the calculation of capital gains will be simplified from 6 April 2008, making it much easier for everyone to calculate their tax liability and plan their affairs. A flat rate of 18% will apply to gains realised from 6 April 2008. This flat rate will apply to individuals, trustees and personal representatives. Taper relief and indexation relief will be withdrawn.

The withdrawal of taper relief creates some surprising winners and losers. Where assets currently qualify for the higher business asset rate of taper relief, the effective rate of capital gains tax can be as little as 10% after just two years of ownership and the new regime will almost double the effective rate of tax on the disposal of such assets.

This is of particular concern to businessmen planning to sell their business assets or company shares, and may also adversely affect employees who have been awarded quoted shares in their employer’s company. While such employees are likely to have paid income tax on the value of the shares when they received them, they will have hoped that any future growth would be taxed at 10%. Indeed lower paid taxpayers such as supermarket workers who participate in share schemes may even have expected a tax rate of 5%. Now that tax bill may be 18%.

By contrast, assets which only qualified for the lower rate of taper relief could benefit from a tax reduction on disposals after 6 April 2008. For a higher rate taxpayer the maximum rate of taper relief, which only accrues after ten full years of ownership measured from 6 April 1998, results in an effective minimum tax rate of 24%, whereas those who own assets for less than three years before they sell them can pay tax of 40%.

The assets which qualify for the lower taper relief rate include most stock exchange investments, as well as other assets such as second holiday homes, works of art and some antiques, buy-to-let properties and other land etc. In consequence, many investors, particularly those who only invest for the short term, will be happy to see a reduction in their tax bill when they sell.

It is not all good news for such investors, however. Inflationary gains, which accrued between March 1982 and April 1998, are wiped out by a relief known as indexation, but this too will be abolished from 6 April 2008.

The value of this relief depends on exactly when you first acquired the asset sold but in some cases was worth the equivalent of just over the base cost you paid for the asset doubling your allowable tax deductions when working out the gain. Some hard work with a calculator will be needed to know whether the reduction in tax rate will outweigh the fact that inflationary gains from this period are now to be taxed.

When it comes to selling stocks and shares part of the complication swept away will be the need to identify which shares you are selling - if you only dispose of part of your holding. Currently the shares you acquire most recently are deemed to be sold first but from 6 April all shares will be pooled together and a part disposal will attract a deduction of an averaged cost from that pool.

Some people will have carefully scheduled when to dispose of investments so that they don’t exceed the annual capital gains tax exemption each year and a rethink of plans may be necessary as the figures will have to be reworked.

Undoubtedly, some people will be better off if they bring forward disposals of assets prior to 6 April 2008 but the downside is of course that they will have to pay their tax bill earlier. The fine detail of the new rules has not yet been announced so the clear message should be to wait for these rules to be published, but making a diary note to review your share portfolio or other assets well before the end of the tax year could well produce tax savings as the capital gains tax system changes.

Contact details
Email: Valerie Smart
Tel: +44 (0)131 260 4497