Capital Gains Tax: A Wealth Tax by Another Name?
Capital gains tax (CGT) has traditionally been a tax that most people could disregard. If your clients happened to be caught within its grasp, they could consider yourself in a relatively wealthy minority. However, as has happened with higher rate tax, the reach of CGT has been growing and will extend further over the next few years. It is no longer a tax your clients can ignore.
Source: HMRC, OBR.
In the summer, HMRC issued their annual update on CGT receipts. The latest figures relate to 2021/22 because CGT liabilities are generally – other than for residential property – reported in the January of the tax year after the gains are realised. At £16.7bn, total CGT liabilities were up 15.2% on the previous year and almost double the level of 2015/16. The number of individual taxpayers also jumped by over 20% between 2020/21 and 2021/22.
The rise in CGT liabilities over recent years has its roots in three main areas:
The Government’s decision in the March 2020 Budget to replace Entrepreneur’s Relief covering the first £10m of gains with Business Assets Disposal Relief, which covered only the first £1m.
The freezing of the CGT annual exempt amount at its 2020/21 level despite high inflation; and
Pre-emptive action by some taxpayers who wrongly feared an increase in tax rates in response to a CGT review commissioned by Rishi Sunak (as Chancellor) in July 2020.
In the Autumn Statement 2022, the Chancellor gave the CGT ratchet another three turns:
The annual exempt amount was reduced from £12,300 in 2022/23 to £6,000 in the current tax year and just £3,000 from 2024/25.
The provision to index-link the exempt amount unless the Chancellor decided otherwise was scrapped.
The higher rate income tax threshold was frozen at £50,270 through to 5 April 2028. This has an impact on CGT because it means more higher rate taxpayers for whom the rate of CGT is 20% (28% for residential property), against the 10%/18% basic rate taxpayers suffer.
This trio of measures could drag your clients into paying CGT or at least mean they have to pay the tax more attention than they have in the past. At the time of the 2022 Autumn Statement, HMRC estimated that around 500,000 individuals and trusts could be affected, increasing to 570,000 in 2024/25. Of this group, HMRC reckoned that 260,000 individuals and trusts will be brought into the scope of the tax for the first time.
What can your clients do?
Next tax year’s £3,000 annual exempt amount means that your clients should start planning now if they have investments that could be liable to CGT. The strategies to consider include:
Maximise the use of ISAs, which are free of CGT. This tax advantage once seemed a minor benefit, but that has changed in the new CGT world. If clients have cash ISAs currently, it might be worth turning them into stocks and shares ISAs.
Do not waste the annual exemption. It has been many years since it was possible to sell a holding one day and buy it back the next to crystallise the necessary gain, but similar opportunities still exist.
If clients are married or in a civil partnership, think about who should own what: they each have their own annual exemption, meaning in this tax year they could realise gains of £12,000 between you with no CGT bill. Similarly, their partner may be a basic rate taxpayer, subject to 10% CGT while they have to pay 20%.
Consider carefully how your clients invest. For example, there is no CGT within pension arrangements, but there will normally be income tax on 75% of their retirement benefits.
The ‘Don’t Sell!’ option? There is (currently) no CGT on death. However, such a drastic planning option faces another tax obstacle – inheritance tax. There is also the old saying “don’t let the tax tale wag the investment dog”.
Invest £20,000 for three years with just 2% a year capital growth and clients will have a potential CGT liability. CGT has become a form of wealth tax and, like other taxes, needs to be built into their financial planning.