Planning for a higher rate of capital gains tax
Planning for a higher rate of capital gains tax
A review into UK capital gains tax commissioned by Chancellor Rishi Sunak has recommended reforms which would significantly increase tax payable on gains made when assets – such as shares and property – are sold at a profit. It also looks closely at the use of corporates as long-term investment vehicles and the tax distortions that arise as a result. The recommendations of the review, undertaken by the Office of Tax Simplification, were broad, however the main conclusions of the review are as follows:
- The annual capital gains tax allowance should be cut, bringing more into scope for the tax, but introducing broader allowances for personal chattels
- Capital gains should be taxed at a higher rate, more closely aligned with income tax rates, but some allowances made for inflationary growth
- CGT treatment for disposal of smaller companies’ shares should be reviewed, potentially taxing all or part of any gain as income
- Tightening up or removal of Business Asset Disposal Relief, more commonly known as “Entrepreneurs Relief”
- There should be no automatic uplift of base costs upon death, potentially introducing the “no gain, no loss” principle on transfers of inherited assets
The above could mean the tax payable in some circumstances could more than double.
Our view – November 2020
The publication of the review does not mean its suggestions will translate into legislation. The second of the reports, due early next year, will comment on the technical and practical issues of any proposed changes, which will shed some light on the likelihood of any change in the Budget of March 2021.
The Chancellor is likely to reflect on the findings – and on the fact that many in his party and in the Conservative electorate will not support some of these proposed measures.
The Chancellor, driven primarily by a need to stimulate the economy in the wake of Covid-19, may delay. However the need for increased tax revenue is undeniable and it is difficult to foresee a scenario where some, if not all, of these proposals are not implemented in some form.
The publication of this document should therefore be seen as a further prompt for investors to look hard at their existing uncrystallised gains and where these may be currently obstructing planning activity. A review of tax planning has, on balance, become more urgent.
Today’s capital gains regime is attractive by historic standards
|Capital gains tax rate payable on…||Higher rate taxpayer||Basic rate|
|Other chargeable assets||20%||10%|
Gains on sale of shares, in excess of the CGT allowance of £12,300 (2020-21), are currently charged at just 20% for higher and additional rate taxpayers.
This is a very favourable rate compared to the current higher or additional income tax rates of 40% and 45% respectively.
It also looks favourable compared to the history of the tax. Capital gains were taxed at the same rate as income from the 1980s until 2008 – even if an increasingly generous system of reliefs meant that in practice many people paid much less. On this point, the recent report did recognise the need for some uplift for inflationary purposes, to avoid an effective double taxation of the same asset in real terms, potentially reintroducing the subject of indexation relief into the debate.
In light of the current political shift, we think it is worthwhile reassessing existing planning arrangements. In some cases it may be worth bringing forward disposals in order to benefit from the current, relatively favourable, tax rates.
Making disposals of shares or funds for planning purposes does not need to involve any change to your long-term investment strategy.
Proceeds of any disposal can also be reinvested in a way that will make CGT less of a burden in future. For example, using a single “portfolio fund” to reflect your desired investment strategy - such as Cazenove Capital’s Balanced or Growth Fund - is a simple way of achieving this and is likely to become more popular if these changes come to fruition. Underlying holdings within a fund structure are not liable to CGT when traded; gains are only taxable on the eventual sale of units in the fund by the investor. This makes it easier to manage your CGT position, without altering the underlying mix of investments or limiting investment flexibility.
Please contact your wealth planner or portfolio manager if you would like to discuss your situation in more detail.
Case Study: crystallising a gain and rebalancing a portfolio
One of our clients is a retired corporate executive with a taxable portfolio worth £2.2 million. We have managed this portfolio for close to 10 years. It has been invested under a “growth” mandate and has increased in value by over 93% under our management.
Following the Covid-19 crisis, the client has become concerned about higher UK taxation and has asked us for advice on minimizing CGT within his taxable portfolio. He has recently downsized to a smaller property, freeing up cash which could be used to meet any CGT liability.
Some gains have been taken over the years but unrealized gains still stand at close to £900,000. Due to the particularly strong performance of US equities over the past decade, close to half of the gains are within US-focused funds, which has also distorted the overall asset allocation of the portfolio.
Given the client’s justifiable concerns around CGT, and our desire to reposition the portfolio for the longer term, we have agreed with him to liquidate his portfolio, with him paying CGT at the current favourable rates, and reinvest within Cazenove Capital’s Growth Fund. This will provide him with exposure to a diversified, multi-asset portfolio, that is unconstrained by tax, whilst providing him with greater flexibility to manage his CGT position in future.
Capital gains tax – a brief history
Before 2008, capital gains were treated as the top slice of income and charged at the same rate of tax as savings income – with a rate of 40% for higher earners. However, generous allowances introduced in the early 2000s to encourage business investment meant that many individuals and businesses (in particular, private equity firms and their partners) were able to pay as little as 10%. In 2008, then Chancellor Alistair Darling tightened up the allowances and set a flat rate of 18%.
In 2010, the coalition government changed the rate of capital gains tax to 10% for basic rate tax payers and 20% for higher rate tax payers. These are the rates in force today for gains that do not arise from residential property.
In response to concern about rising property prices – and in particular the impact of buy-to-let – the government introduced a higher rate for gains arising from residential property in 2016.
Statements concerning taxation are based on our understanding of the taxation law in force at the time of publication. The levels and bases of, and reliefs from, taxation may change. You should obtain professional advice on taxation where appropriate before proceeding with any investment.
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This article is issued by Cazenove Capital which is part of the Schroders Group and a trading name of Schroder & Co. Limited, 1 London Wall Place, London EC2Y 5AU. Authorised by the Prudential Regulation Authority and regulated by the Financial Conduct Authority and the Prudential Regulation Authority.
Nothing in this document should be deemed to constitute the provision of financial, investment or other professional advice in any way. Past performance is not a guide to future performance. The value of an investment and the income from it may go down as well as up and investors may not get back the amount originally invested.
This document may include forward-looking statements that are based upon our current opinions, expectations and projections. We undertake no obligation to update or revise any forward-looking statements. Actual results could differ materially from those anticipated in the forward-looking statements.
All data contained within this document is sourced from Cazenove Capital unless otherwise stated.