Reshma Johar highlights an HMRC interpretation of the tax law that is causing some difficulties for couples on divorce (or on the dissolution of a civil partnership).
Many trading activities are owned by couples. What would be the impact if the couple were to permanently split up? What are the capital gains tax (CGT) impacts on being required to transfer business assets? Can gift relief (under TCGA 1992, s 165) eliminate potential CGT?
It’s definitely over!
It is vital for tax purposes to know when spouses or civil partners decide to permanently separate. For the period whilst the couple are married or in a civil partnership and living together to the end of the tax year in which they separate, they will be able to transfer assets between them without triggering any CGT (disposals take place at no gain or loss, under TCGA 1992, s 58).
For the period between 6 April following the tax year of separation and date of divorce or dissolution, the couple will still be legally married or civil partners and therefore connected for CGT purposes (TCGA 1992, s 286(2)). This means that transfers of assets will be deemed to take place at market value.
Can gift relief be claimed to hold over gains?
To recap, capital gains arising from the transfer of a business asset or agricultural property, which was either an outright gift or sale at undervalue, could be reduced either partly or entirely by a holdover relief claim. Market value rules will apply to transfers made after the end of the tax year of separation because the couple will be treated as connected until divorce or dissolution.
It appears that HMRC has changed their view on more than one occasion on whether holdover relief can be applied to transfers made following a couple separating. HMRC’s Capital Gains manual on this point (at CG66886) was last updated in December 2019, following Haines v Hill [2007] EWCA Civ 1284.
The area of uncertainty is whether the deemed market value determined under a court order of a business asset to be transferred would be construed as actual consideration under TCGA 1992, s 165(7), thus causing a restriction in holdover relief. The legislation for gifts of business assets does not define what would be included as ‘actual consideration’.
HMRC sees ‘consideration’ as giving up the statutory right over an asset on divorce or dissolution. HMRC’s Helpsheet HS281 also adds the following comment: “If the asset is transferred in exchange for a surrender, by the recipient, of rights they would otherwise be able to exercise to obtain alternative financial provision, whether by way of a court order or not, the value of the rights surrendered is actual consideration of an amount that may eliminate any Hold-over Relief.”
Should we rely on what HMRC is saying?
There have been several tax cases reminding advisers that HMRC’s manuals should not solely be relied on when advising clients. HMRC’s manuals are an internal resource for HMRC employees that were made public under the Freedom of Information Act. HMRC’s manuals are useful prompts to find legislation, as well as to see how HMRC interprets a specific area of tax.
The reality is that advisers should base their advice on the law and ensure that clients are made aware of the source of the advice provided.
Where does that leave advisers?
Advisers should carefully review the terms of any transfer of business assets alongside the ordinary meaning of ‘actual consideration’. Without legislation either defining ‘actual consideration’ or updated to include situations involving divorces, it may be a battle for the courts to decide.
Hopefully, there is a taxpayer brave enough to challenge HMRC’s thinking!
Practical tip
Given the uncertainty, clients should be made aware of the risk of holdover relief claims being rejected by HMRC in the circumstances outlined.
