Explaining capital gains tax
Broadly speaking, Capital Gains Tax (CGT) is tax charged on the difference between the value you dispose of an asset for and the value you paid for an asset, less your annual exemption (tax free allowance), which for 2020/21 is £12,300.
The rate of CGT you pay is determined by the combined total of your taxable income (your income less your personal allowance less any income tax reliefs) and your taxable gain (chargeable gain less annual exemption) for the given tax year.
If the combined amount is within the basic Income Tax band (£0 - £37,500 for 2020/21), you’ll pay 10% on your gains and you’ll pay 20% on any amount above this.
There are some exceptions to the rule which include residential property gains, which remain chargeable at the old rates of 18% and 28%.
You may be able to reduce or delay the amount of CGT you have to pay if you are eligible for tax relief. The main forms of tax relief are briefly outlined below:
- Business Asset Disposal Relief (known as Entrepreneurs’ relief before April 6, 2020) allows sole traders, partners in a business or those with shares in a personal company to pay 10% capital gains tax on qualifying profits if they sell all or part of their business (as long as they have owned it for at least two years).
- Business Asset Roll Over Relief allows you to delay paying tax on certain assets if you replace the asset within three years of disposing of the old one. You must use both the old and new asset in your business.
- Incorporation relief enables you to delay paying capital gains tax when you transfer your business into a company. You transfer all of your business and assets (except for cash) in return for shares in the company.
- Gift Hold Over Relief applies when you give away a business asset that you have used whist trading as a sole trader or partner. You pay no CGT but the person you gave it to pays tax when they sell it. It also applies where you have at least 5% voting rights in a company.
- Principal private residence relief means that you do not pay CGT on the sale of your only or main home.
Taking advantage of reliefs can vastly reduce the CGT rate. It is important to consult with your accountant about the timing of the sale and your eligibility for reliefs.
Transferring assets to spouses or civil partners (which is deemed to occur at a no gain/loss) or indeed holding assets in joint names can be very tax efficient.
If assets are held in joint names then there are effectively two annual exemptions to set against the gain, resulting in a total annual exemption for 2020/21 of £24,600 instead of just £12,300.