In most cases, as long as the main residence exemption is available in full, there will be no capital gains tax (CGT) to pay when you sell your own home. However, there are plenty of situations in which a taxable gain might arise on the sale of land or property. This may be the case where a rental or investment property is sold, on the sale of a second property such as a holiday home or a city flat, on the disposal of business premises or on the disposal of land, such as a field or paddock, which does not count as part of the garden of your main home.
To ascertain whether a liability arises, it if first necessary to calculate the gain on the sale or disposal. To do this, it is necessary to determine any consideration for the disposal.
Basic calculation
The basic calculation of the gain or loss is as follows:
| Consideration | x | ||
| Less: cost of land or property | x | ||
| improvement expenditure | x | ||
| allowable costs of acquisition | x | ||
| allowable costs of sale | x | ||
| (x) | |||
| Gain or loss | x |
Any gain may be reduced by the availability of tax reliefs or losses, or covered by the annual CGT exemption.
Consideration
In most cases, the consideration is the amount actually received for selling the land or property. A deduction is given for costs of sale such as agent’s and solicitor’s fees. However, in some cases special rules apply, and an amount other than the actual sale proceeds is treated as the consideration for the purposes of working out whether there is a gain or a loss.
Special case 1 – Transaction not at arm’s length
Where the transaction is other than at arm’s length, the market value is used in place of the actual consideration that changes hand. This will be the case if the land or property is given away or is intentionally sold for less than it is worth. It may not always be clear whether the transaction is at arm’s length.
An ‘arm’s length’ transaction is a normal commercial transaction in which both parties try and get the best deal for themselves – the seller will be trying to get the highest possible price and the buyer will be trying to get the lowest possible price. In a deal which is not at arm’s length, one of the parties does not intend to get the best deal and intends to confer a degree of gratuitous benefit on the other party. This will be the case where one party gives the land or property to the other party (but see special rules for spouses and civil partners below).
Where the transaction is not at arm’s length, the market value of the property is used instead of the actual sale proceeds for the purposes of working out the gain for capital gains tax purposes.
Example 1: Gift of cottage
Richard has a holiday cottage on the coast. He gives it to his girlfriend Alison. At the time of the gift, the cottage had a market value of £200,000.
In this situation, no actual money changes hands, so the sale proceeds are nil. However, as the transaction is not at arm’s length and Richard intended to confer a benefit on Alison, the market value of the property (£200,000) is used in working out any gain pertaining to Richard’s disposal of the property.
Alison’s acquisition cost is also deemed to be the market value of £200,000, even though she did not actually pay anything for the property.
Example 2: Sale at below market value
Assume that Richard sold the property to Alison for £100,000.
Once again the transaction is not at arm’s length, as Richard intended to confer benefit on Alison. Consequently, the market value of the property (£200,000) is used to calculate the gain, rather than the actual consideration of £100,000.
Where the transaction is not at arm’s length, a tax liability may arise as the market value is used to work out the gain, rather than the actual sale proceeds (if any). Consideration should be given as to how the tax will be paid where there are insufficient proceeds to cover it. The gift may end up costing the transferor more than he intended.
Exception: Bad bargain
The market value rule does not apply to a transaction that is simply a bad bargain, as long as it is a bargain made at arm’s length. The agreed price may be below the market value, but may still be at arm’s length.
Example 3: Lower offer accepted
David is selling his city flat (which is not his main residence). He is keen to secure a quick sale as wishes to buy a holiday home abroad. He has seen one he likes, and does not want to lose it.
He puts the property on the market for its market value of £300,000. He has two offers, one of the asking price and one of £280,000. He accepts the lower offer as the buyer is a cash buyer and able to complete quickly.
Although he could have obtained a higher price by completing later, the transaction is at arm’s length as he has achieved the best deal for himself taking the completion time into account. The actual sale proceeds of £280,000 are used in computing the gain.
Special case 2 – Connected persons
Where the parties to the transactions are connected persons, the market value is again used instead of the actual sale price. Disposals between connected persons (other than between spouses and civil partners, to whom another special rule applies) are treated as transactions not at arm’s length, and the market value of the property is used instead of the sale proceeds to compute any gain.
‘Connected persons’ are your siblings, parents, grandparents, children and grandchildren and their spouses or civil partners and your spouse or civil partner’s siblings, parents, grandparents, children and grandchildren and their spouses or civil partners. The connected person rule also applies to disposals to certain trustees, or to a company that you control.
Spouses and civil partners are also connected persons, but for CGT purposes a special rule overrides the connected person rule: see below.
Thus where the transaction is between connected persons (other than spouses or civil partners), the market value is used in place of the actual sale proceeds to compute the gain - this rule applies regardless of whether the market value is more or less than the actual sale proceeds.
Special case 3 – Spouses and civil partners
Special (and useful) rules apply for CGT purposes when the disposal is between spouses or civil partners. The consideration for the disposal is deemed to be that which gives rise to neither a gain nor a loss. This means that assets can be transferred between spouses free of CGT. This can be useful prior to a sale, to make the best use of available annual CGT exemptions.
Example 4: Disposals between spouses and civil partners
Elliot and Annie are husband and wife. Elliot has a rental property that he has owned for many years. He wishes to sell the property. Neither he nor Annie have had made any other disposals in the tax year and both have their full annual CGT exemptions available (£11,000 for 2014/15).
The property originally cost £120,000. Elliot has spent £10,000 on improvements. Costs of acquisition were £5,000.
Elliot wishes to transfer a half-share in the property to Annie to take advantage of her annual CGT exempt amount on the ultimate sale to a third party. The sale to Annie of a half share is deemed to take place for a consideration of £67,500. This is the value that gives rise to neither a gain nor a loss (£67,500 - £60,000 (50% original cost) - £5,000 (50% improvement expenditure) - £2,500 (50% of costs of acquisition) = nil).
Practical Tip:
A capital gain is not always worked out by reference to the actual money paid for an asset. Beware of the special rules and, in particular, the situations where the market value may be applied instead.
