New Lower Rates Of CGT – But Not For All!

Sarah Bradford outlines the impact of the changes to the rates of capital gains tax with effect from the start of the tax year 2016/17.

In a surprise Budget 2016 announcement, the Chancellor reduced the rates of capital gains tax (CGT) on most chargeable gains. 

From 6 April 2016, capital gains are charged at 10% to the extent chargeable income and gains fall within the basic rate band (£32,000 for 2016/17), and at 20% once the basic rate band has been used up. However, in a twist that hits buy-to-let investors, the new rates of 10% and 20% do not apply to gains on residential property (or carried interest), which continue to be taxed at 18% to the extent that the basic rate band is unused, and at 28% where the taxpayer is a higher or additional rate taxpayer. Gains taxable in respect of residential property and carried interest are referred to as ‘upper rate’ gains.

The annual exempt amount remains at £11,100 for 2016/17.

Gains qualifying for entrepreneurs’ relief or the new investors’ relief are taxable at 10%, subject to availability of lifetime limits. However, where gains are taxable at 10% as a result of these reliefs, they have first call on the basic rate band to the extent that it remains available. This means that access to the lower rates of CGT (10% or 18% depending on the nature of the gain) are reduced or eliminated where these reliefs are due.

As a result of the changes, the structure of CGT has become more complicated, and now looks like this: 

Where the taxpayer has no gains from residential property or benefits from entrepreneurs’ or investors relief, the position is straightforward. Net chargeable gains in excess of the annual exempt amount are taxed at 10% to the extent that they fall within the basic rate band, and at 20% otherwise.

In 2016/17, James sells some shares and realises a gain of £25,000. He has a salary of £31,000 and no other income or gains.

His personal allowance of £11,000 is set against his salary, leaving £20,000 taxable at the basic rate. This utilises the first £20,000 of the basic rate band, leaving £12,000 of the basic rate band unused.

The exempt amount for CGT purposes for 2016/17 is £11,100. After deducting this from James’ gain of £25,000, James is left with a chargeable gain of £13,900. The first £12,000 of this gain falls within the unused basic rate band and is taxed at 10% and the remaining £1,900 of the gain is taxed at 20%. 

Therefore, CGT payable by James is £1,580 ((£12,000 @ 10%) + (£1,900 @ 20%)).

Where the taxpayer has a residential gain which is not covered by the main residence exemption in respect of either a UK or foreign property, the gain is taxed at the rates applicable to upper rate gains of 18% or 28%, depending on the extent to which the chargeable gain falls within the basic rate band. This will apply, for example, to a gain on the sale of an investment property, such as a buy-to-let or a second home, which is not the taxpayer’s main residence.

Helen sells a buy-to-let property, realising a gain of £40,000. She is a higher rate taxpayer. After deducting the annual exempt amount, the chargeable gain is £28,900. As her basic rate band has been fully utilised, the gain is taxed at the higher rate applicate to upper rate gains of 28%, giving rise to a capital gains tax liability of £8,092 (£28,900 @ 28%).

Where in 2016/17 or a later tax year a taxpayer has residential and non-residential gains, he can allocate the annual exempt amount and any unused basic rate band in the most beneficial way. This will generally mean setting the annual exempt amount against any residential gains, as these are taxed at a higher rate.

In 2016/17, Robert makes a taxable gain on the sale of a buy-to-let property of £30,000 and a gain on the sale of some shares of £6,000. He has £10,000 of his basic rate band remaining.

The annual exempt amount of £11,100 is set against the residential gain, leaving chargeable residential gains of £18,900 and chargeable non-residential gains of £6,000. As the differential between the rates is 8% regardless of whether they fall within the basic rate band or not, once the annual exempt amount has been used, it does not matter whether the residential or non-residential gains are allocated to the remaining basic rate band. 

Whichever allocation is used; the capital gains tax is £5,492 (i.e. ((£10,000 @ 18%) + (£6,000 @ 20%) + (£8,900 @ 28%)) or ((£6,000 @ 10%) + (£4,000 @ 18%) + (£14,900 @ 28%)).

Where there are residential and non-residential gains, set the residential gains against the annual exempt amount first to minimise the total CGT payable.