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Budget 2008: Darling confirms new CGT reforms

Alistair Darling's first budget as chancellor today confirmed that the government's new Capital Gains Tax reforms will be implemented next month.

As outlined in draft legislation recently released by HMRC, a flat 18% CGT rate will be introduced from 6 April, with a 10% entrepreneurs' relief applying for the first £1m of asset sales.

Ahead of Wednesday's speech, few analysts predicted that Darling would delay implementation of the plans but with its implementation now confirmed, experts were still critical of its potential impact.

"Business has braced itself for the withdrawal of indexation and taper relief," said Chas Roy-Chowdhury, head of taxation at the Association of Chartered Certified Accountants. "This represents a sudden, painful and unexpected increase of 80% in the potential tax on disposal for many small business owners.

"It will be interesting to know how many entrepreneurs disposed of their businesses before 5 April so that they pay only 10% CGT rather than 18%. Looking ahead, ACCA fears that the new tax rules will impact adversely on economic activity by encouraging short-termism."

Richard Lambert, director-general of the Confederation of British Industry, however was more complimentary saying that other pro-small business measures included in the budget would dampen the anger resulting from the CGT reforms.

He said: "Although the anger over capital gains tax is still simmering, entrepreneurs and smaller businesses will recognise that the government has made an attempt to listen."

The CGT reforms

From 6 April 2008 substantial changes to Capital Gains Tax (CGT) will apply to individuals, trustees and personal representatives, but not for companies.

The Finance Act 2008 will introduce the following changes:

• A main rate of CGT of 18% will apply to all gains other than those covered by the new entrepreneurs tax relief or the CGT annual exemption.
  
• A lower rate of 10%* for gains on certain business assets which are covered by the new Entrepreneur relief (see below).
  
• Capital gains will not longer be taxed by reference to income tax rates and bands.
  
• The following will be abolished: taper relief, indexation allowance (currently frozen at April 1998), and'halving relief', however, in some cases, indexation will not be lost after 6 April 2008.
  
• Rebasing of cost to 31 March 1982 value will be compulsory for assets held at that date.
  
• Simplification of the rules for matching certain assets (mostly shares) disposed of with assets acquired.
  
• The new Entrepreneur’s relief will be available in respect of gains made on the disposal of certain business assets.

  * not exactly, slightly higher rates apply if the CGT annual exemption is unused.

Entrepreneur's Relief
Although not dissimilar to CGT retirement relief which was phased out in 2002/03, Draft Entrepreneurs' relief will not be based on any age or illness conditions and the qualifying holding period will only be one year.

• The first £1 million of lifetime gains on qualifying business assets will be charged to CGT at an effective rate of 10-ish per cent. Gains in excess of £1 million will be charged at the normal 18 per cent rate.
  
• An individual will be able to make claims for relief on more than one occasion, up to a lifetime total of £1 million of gains qualifying for this type of relief.

The Losers: Comparison of CGT on business disposal 2007/08 v. 2008/09

The new relief will apply against:

• Capital gains made when an individual disposals of all or part of an unincorporated business or partnership
  
• Capital gains made when an individual disposes of assets following the cessation of a business,
  
• Capital gains made by individuals on the disposals of shares and securities in a trading company (or the holding company of a trading group) provided that the individual making the disposal:
  
  1. Has been an officer or employee of the company or one in the same group and,
     
  2. Owns at least 5% of the ordinary share capital of the company, and is entitled to exercise at least 5% of the voting rights.

  A 'business', in terms of this relief will be any trade, profession or vocation, excluding property letting business, but furnished holiday letting is treated as a trade for this relief.

Draft legislation confirms the small print of entrepreneurs' relief and confirms tax treatment for earn-outs which span 5th April and confirms the start date of the 'lifetime allowance.

Rebecca Benneyworth looks at some of the quirks of this new relief

Employee share schemes
No changes have been announced for “tax advantaged” employee share schemes from 6th April 2008, other than in tax rates.

• All gains made on approved schemes which includes here EMI schemes will be taxed at the flat rate of 18% after deducting the annual exemption.
  
• Employees who hold less than 5% of the voting capital of their employers companies may lose out due to the loss of the business asset taper relief under the rules for disposals post 5 April 2008.
  
• Employees who hold stakes of more than 5% of shares and voting rights may be eligible for Entrepreneurs relief.

The Losers: Comparison of CGT on share sale 2007/08 v. 2008/09

Other existing CGT reliefs
Other existing reliefs will continue to be available post 6 April 2008 for:

• Principal private residence relief and letting relief


• Business asset roll over relief
  
• CGT relief under the VCT and EIS schemes
  
• Business asset gift hold-over relief
  
• Losses may still be carried forward

The Winners: Comparison of CGT on holiday cottage disposal 2007/08 v. 2008/09

Planning points

Banking v. losing indexation
Indexation will no longer apply from 6 April 2008 and some spouses have an opportunity to consider 'banking' their indexation allowances through inter-spouse transfers.

For example:

1. A wife acquired an asset on 1 January 1983 (ie, after 31 March 1982 and not through a no-gain no-loss acquisition), she could give the asset to her husband before 6 April 2008 and under TCGA 1992 s58 his adjusted base cost on a future disposal by him would be the wife's acquisition cost plus indexation allowance of 104% (to April 1998).
   
2. If the wife had acquired the asset before 31 March 1982, holding it on that date and transferred it to her husband before 6 April 2008 indexation will also be preserved, contrary to what was originally thought. This means that the husband acquires the asset at its indexed up March 1982 value.

HMRC have already confirmed that this is their intention in their CGT FAQs: "Indexation allowance will not be stripped out when the person who acquires the asset under a no gain/no loss transfer disposes of it after 5 April 2008. For example, in the case of an inter-spousal transfer, indexation allowance will continue to be included, where applicable, in arriving at the allowable cost to the transferee spouse."

Business disposals, QCBs and business asset status

• The new entrepreneur’s relief (Link to full details) applies from 6 April 2008, but will apply where part of the consideration for the disposal of a business prior to 6 April 2008 is in QCBs to be redeemable post 6 April 2008. Without any transitional measures, and if entrepreneur’s relief does not apply, gains on the QCBs when cashed would otherwise be taxed at 18%. An active debate in Any Answers: CGT on deferred consideration and loan notes had been on-going prior to the announcement of Entrepreneur's relief.
  
• Even though business asset taper relief disappears from 6 April 2008, Entrepreneur’s relief is dependent on there being a qualifying business ongoing. It will therefore be essential to ensure that the business is a qualifying trade, profession or vocation (or holiday let), which mean the former 20% test lives on post 6 April 2008. This test measures non-trading activities, which must not be substantial (i.e. account for more than 20% of turnover, or assets or profits). This means that businesses will have to continue to watch the size of cash balances or investment activities after all.

Deferred gains
Where a gain has been deferred say, under Enterprise Investment Scheme (EIS), indexation accrued up to 5 April 2008 will not be lost when the gain becomes chargeable after that date. Taper will not apply to deferred gains from 6 April 2008.
The position for some deferred gains which would have formerly attracted halving relief and from 6 April 2008 require some further verification from HMRC.

Non-business asset, mixed use asset disposals
Following introduction of the new regime there will not be 'tainted' or mixed taper relief problems nevertheless, some exclusive business use may still be detrimental in some cases, where it might deny other reliefs, such as the principal private residence relief.

Share pools
All share pools for shares held in the same company will be merged into a single pool - the s104 pool. Shares held at 31 March 1982 will be included at their 31 March 1982 valuation and shares purchased subsequently at their qualifying cost. The only shares which will not lose their indexation under this arrangement are those which have been transferred between spouses on a no gain no loss basis, before 6 April 2008 (see above).
Special rules will remain for matching acquisitions and disposals made within 30 days of each other.

Useful links

Rebecca Benneyworth looks at some of the quirks of Entrepreneur's relief
Entrepreneur's relief: Draft legislation and guidance notes published 25 February 2008
Darling announces major CGT relief

Relieve me - I'm an Entrepreneur All things considered, Simon Sweetman is quite pleased that the Chancellor has changed his mind about CGT.

Comparison of CGT different disposals 2007/08 v. 2008/09 The winners and losers.

Link to HMRC guidance:
Draft CGT legislation
Entrepreneur's relief

Budget 2008 coverage sponsored by

Number of comments: 1

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Rebecca Benneyworth, 13 March 2008 @ 23:52 PM

Example 6 is misleading
The examples on how Entrepreneurs' Relief would work are a good idea, but sadly example 6 which concerns an associated disposal is not helpful. It says that the property is let to the partnership (which seems to imply that rent was charged) and then fails to restrict the relief in respect of any rent. It should probably say "let rent free" but it would have been useful to demonstrate the restriction of relief when the property had been subject to partial market rent.