Negotiation, Negotiation, Negotiation

UK Property Investment news and comments from Mark Harrison of YourPropertyExpert.com

Capital Gains Tax changes – good for property investors, bad for business owners

Posted by markharrison on October 17, 2007

Well, the dust has (almost) settled, and it’s time for a quick review of what Chancellor Darling’s pre-budget report actually means for us.

I should stress at the outset that if you hold business or property assets, and are thinking about selling them, then you should go out and get professional advice from a tax advisor about whether to try to do so before or after the 6th April next year. This is very much my personal understanding of the “headline issues” only… in no way am I trying to give tax advice.

The overall summary is that it’s a welcome piece of news for us property investors, but bad for us business owners (so once again, I’m in a “he giveth with one hand, he taketh with the other) situation.

OK, time to review the current arrangements for Capital Gains Tax (CGT):

1: Everyone gets a tax-free allowance each year for “capital gains” (businesses, property, shares, etc.). In the analysis that follows, I’m pretty much going to ignore this, because it makes the explanation easier, and doesn’t really change the “impact”🙂

2: Some things (like the house you live in) is exempt from CGT.

3: The “basic rate” for capital gains has been 40%, but with a wrinkle, as follows:

3.1: For “business assets”, like shares in a private (unquoted) company, shares in companies quoted on AIM, shares where you own 5% or more of a given company, or where you’re a Director or Employee of the company, you get “business taper relief”, which has been good. Basically, provided you hold onto the asset for one year, you effectively pay tax at 20% instead of 40% (so-called 50% taper relief)… and if you hold onto the asset for two years or more, you effectively pay tax at 10% (so-called 75% taper relief.) For those of us who’ve built businesses, and then sold them, this has been, well good… since it means that we’ve paid 10% tax on our gains.

3.2: For “non-business assets”, like rental property, you get “non-business taper relief”. This cuts in MUCH more slowly, with not a penny reduction until you’d held the asset for 2 years (at which point you get a reduction from 40% tax down to 38% – woo)… and “full relief” only after you’ve held it for 10 years (at which point you get a reduction from 40% tax down to 24%.)

Some quick illustrations when explain why we property investors have been campaigning to be treated like business owners (given we’re regulated like them!)

  • Hold a business for 2 years, pay tax at 10% when you sell it.
  • Hold a rental property for 2 years, pay tax at 38% when you sell it.
  • Hold a business for 10 years, pay tax at 10% when you sell it.
  • Hold a rental property for 10 years, pay tax 24% when you sell it.

Here’s the proposed new rule…

  • Capital gains tax will be at 18%, irrespective of how long you’ve owned the thing, and irrespective of whether the thing is a “business” or a “non-business” asset.

You can probably see, therefore, why someone who’s got a few buy to lets, and was thinking of cashing out, is probably going to hang on until next April to sell, all of a sudden… and pay tax at 18% rather than between 24-40%.

Likewise, however, pity the poor businessman who has worked the last 7 years, ploughing his life savings into the thing, working all hours, and looking forward to selling out when he hits 60 in 2010… suddenly, he’ll pay 18% tax rather than 10%… almost double what he would have paid.

Expect to see a few small businesses up for sale over the next few months, as people try to sell up under the current rules rather than the proposed new ones…

… but if that’s you looking to sell, go and see a real accountant first, eh?

8 Responses to “Capital Gains Tax changes – good for property investors, bad for business owners”

  1. where you own 5% or more more of 5% of..

    This may be a typo – but it may not be. If it isn’t can you explain?

    Thanks

  2. No it was a typo – now corrected. Thanks, Andy.

  3. Judith Harper said

    Question:

    I bought a rental property (side by side duplex, I live in one side, rent out the other) approximately 15 years ago for 43,900. I am now selling for 125,000 (this is 1/2 the price of the entire duplex). I have depreciated per the tax code for any improvements made over the years, and understand that that amount needs to be added back in. Upon getting a “ballpark figure” from my income tax preparer, he said that I will need to pay capital gains tax on approximately 130,000 dollars when I sell.
    My question is, “Is it possible that I could have to pay CGT on more than I am actually receiving for the property”. It does not make intuitive sense to me. Even with depreciation it seems I should not have to pay tax on more than the amount I am getting now (125,000) minus the price I originally purchased it for (46,300),which would be 78,700. Please tell me your thoughts. Thanks, Judith Harper

  4. Judith,

    1: I’m not qualified to give tax advice.

    2: This blog is about UK property. If you’re selling for 130,000 dollars… then I’m guessing you’re in the US?

    Does sound odd though! In the UK, faced with such a question, we can talk to the government directly as well as our own accountants. Generally I find our HMRC (our equivalent of your IRS) to be most helpful on the phone.

    Mark

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  8. Tax Guru said

    I’ve been engaged in taxations for longer then I care to acknowledge, both on the personal side (all my working life!!) and from a legal standpoint since passing the bar and following up on tax law. I’ve rendered a lot of advice and righted a lot of wrongs, and I must say that what you’ve put up makes impeccable sense. Please persist in the good work – the more individuals know the better they’ll be equipped to handle with the tax man, and that’s what it’s all about.

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