Legal Basics - Tax Last modified: 24 July 2007

Capital Gains Tax

Capital Gains Tax (CGT) is a tax on profit made when you sell assets or investments. These can be anything from holiday homes to works of art, shares or the goodwill of a business.

If you sell or transfer these assets to someone else for more than you paid for them, you may have made a capital gain. If you give assets away to anyone close to you (apart from your spouse) when they are worth more than you paid for them, for tax purposes you may have made a capital gain.

Allowances

As an individual, you can make a capital gain of up to £9,000 in the 2007/08 tax year before you are liable to pay CGT. Any gain above this limit is charged at different rates depending on your circumstances (though not more than the top rate of 40%).

Calculations

Generally, CGT is payable at your highest rate of tax.

The gain itself may be reduced by taper relief, the rate of which depends on

• how long the asset has been held, and

• whether or not it is a 'business asset'

Business assets enjoy beneficial rates and include:

• shares in unquoted trading companies,

• share in the company where you work, and

• assets used for the purposes of your trade

Calculations of CGT liabilities can become confusing. If you make losses on your investments these can usually be deducted from your gains before taper relief. It is generally advantageous to first deduct losses from gains which have been tapered least.

Losses left over can then be carried forward to offset any capital gains in later years.

Payments

Tax due on capital gains made in 2006/07 should be paid by 31 January 2008 as part of any balancing payment calculated through the self assessment system.

Exemptions

The gain from the sale of your main home does not generally incur a charge to CGT unless it has been used for business purposes or you have had periods of non residence which exceed certain levels.

Chattels (e.g. jewellery, pictures, antiques, bottles of wine) sold for £6,000 or less are exempt regardless of sale proceeds.

Gains arising from assets with an ISA are also exempt.

Reliefs

Reliefs may be available in certain circumstances. For example on the gift of business assets or on the gift of 'assets' into certain types of trust, the gain may be 'held over' until the assets are disposed of by the donee.

EIS or VCT Deferral Relief

The Enterprise Investment Scheme (EIS) and Venture Capital Trust (VCT) schemes allow deferral of CGT by investing in new shares.

In some cases, CGT may be minimised or avoided by 'moving' the liabilities to other tax years.

There are complex criteria surrounding EIS or VCT schemes, which were set up to encourage investment in small businesses.

Proper professional advice should always be sought in connection with these schemes.

Inheritance tax

When you die, Inheritance Tax (IHT) will be charged on your personal wealth, together with all or a proportion of your lifetime gifts made in the preceding 7 years.

Most gifts made during your lifetime will be entirely exempt from IHT if you live for 7 years after making the gift.

The full rate of tax is 40%, but this is reduced on a sliding scale for gifts made between 3 and 7 years before your death.

IHT is payable where a person's wealth is in excess of £300,000 from April 2007. Therefore, if you own your house and have some savings, life assurance policies or business assets, your estate could be liable.

Planning to minimise the liability to IHT should be a team effort between yourself and your professional adviser.

Main Considerations

The sooner you plan for IHT the better. Here are some of the factors you will need to take into account:

Value of Assets
Have you considered the total value of all your assets? Don’t forget, the value of some types of asset e.g. property, can change dramatically over the years.

Financial Security
You need to make sure that you and your spouse are properly provided for, particularly in retirement. It would not make sense to give assets to your children only to find that in later years you need to ask for some or all of them back!

Family Matters
You should consider what degree of control you would wish your children to have over any assets you transfer to them.

You should also work out how much your spouse would need if you were to die first. This would, of course, need to be reflected in your Will.

It may be important to find out the intentions of parents or elderly relatives with regard to their own assets.

IHT and Your Business

Shareholdings in unquoted trading companies attract Business Property Relief at 100%.

In other words, your business can normally be passed on with no IHT being paid.

Assets owned by you but used by a partnership in which you are a partner, or a company which you control, attract Business Property Relief at 50%.

Similar reliefs apply to agricultural property.

Reducing the IHT Bill

As previously suggested, IHT planning is best undertaken as a joint effort between yourself and your professional adviser. There are areas of opportunity currently available, some of which are listed below: 

• Transfers of assets between spouses are exempt from IHT, but other lifetime gifts may be more tax-efficient.
• Annual Exemptions, currently £3,000, may be given away each year without forming part of the 7 year 'clock'.
• Regular gifts out of taxed income may be tax exempt.
• Any number of small gifts up to £250 per donee are exempt, as are gifts of specified amounts made on the occasion of marriage.
• Lifetime gifts are potentially exempt from IHT and there is no limit on such transfers. This is an excellent way of transferring assets that you do not need to keep in your estate, although it may be advisable to cover substantial gifts by insurance against death within 7 years.
• A Trust may allow the transfer of assets out of an estate for IHT purposes, but permit trustees (which may include the transferor) to exercise some degree of control over the capital or income. There may be an IHT charge, but this would be at 20% rather than 40%, and only if the transfer exceeds £300,000 from April 2007.
• Life assurance policies (unless designed to cover IHT liabilities) should be assigned during lifetime so that the proceeds do not form part of the estate on death. The most common assignees are spouses, family members and Trusts.

Test Yourself!

If you're not sure whether you need to take action with regard to IHT planning, try answering the following questions:

1. Have you made a Will?
2. Has your Will been safely lodged so that it can be easily accessed after your death?
3. Have you considered how to fund any IHT liability?
4. Do you have medium and long-term financial objectives?
5. Do you know the present value of your estate?
6. Have you arranged your affairs to take advantage of the IHT threshold of £285,000 as of April 2006?
7. Are you sure you have the right amount or type of life assurance?
8. Have you considered making gifts to family members that take advantage of the IHT exemptions and reliefs?
9. Have you considered how IHT may affect your business?
10. Are you aware that business assets can be given away without having to pay Capital Gains Tax and IHT?
11. Have you considered the use of Trusts in estate planning?
12. Are you sure your estate plan is up to date and takes account of your personal wishes and all potential tax-saving strategies?

If you have any 'no' answers, you should consider seeking professional advice as soon as possible.

Trusts

Trusts can be a very useful way of both sorting out your financial affairs and avoiding tax.

There are essentially three different types of Trust, brief details of which are set out below:

Interest in Possession Trust

An Interest in Possession Trust provides the beneficiary with the right of income from the Trust (usually for his/her lifetime) but defers the right to the capital until some future date.

The capital of the Trust may, however, be given to the beneficiary should the Trustees wish to do so. The Settlor may also be a Trustee.

Capital Gains Tax
There is a charge to CGT on passing property into this type of Trust, but the transaction may be eligible for:

Retirement Relief (if applicable)

Holdover Relief for business assets

Nil rate for cost plus indexation.

There could be a charge to CGT if the Trustees sell any of the Trust assets. This is the same as if an individual sold the assets, but there is a beneficial tax rate of 34%, whereas an individual would pay at his/her top rate (which at present could be 40%).

There may be a charge to CGT on appointing the capital to the beneficiary, although this could be the subject of a Holdover Relief claim (for business assets only).

Inheritance Tax
There is no immediate IHT charge on the gift into the Trust, as it is a potentially exempt transfer. Furthermore, if the transfer is survived by seven years there is no IHT charge whatsoever. If the asset qualifies for Business Property Relief, 100% will fall out of account immediately - unless the Settlor dies within seven years and the original business property has been converted into non-business property by the time of death.

The assets then form part of the beneficiary’s Estate for IHT purposes.

Income Tax
Trust income is taxed at 20/22% within the Trust.

Discretionary Trust

In a Discretionary Trust, the beneficiaries have no right to income and no right to the capital - except at the Trustees’ discretion.

Capital Gains Tax
There is a charge to CGT on passing property into the Trust, but the transaction may be eligible for:

Retirement Relief (if applicable)

Holdover Relief for business assets

Nil rate for cost plus indexation.

Holdover Relief for assets generally

There could be a charge to CGT if the Trustees sell any of the Trust assets. This is the same as if an individual sold the assets, but there is a beneficial tax rate of 34%, whereas an individual would pay at his/her top rate (which at present could be 40%).

There may be a charge to CGT on appointing the capital to the beneficiary, although this could be the subject of a Holdover Relief claim (for business assets) or Holdover Relief (for assets generally).

Inheritance Tax
There will be an IHT charge on the gift into the Trust as it does not qualify as a potentially exempt transfer, but 100% Business Property Relief and the IHT threshold (currently £300,000 from April 2007) could reduce the charge to nil.

There is a charge to IHT on the Trust of up to 6% of the fund value every ten years, payable by the Trustees. This charge will be eligible for Business Property Relief (assuming this remains applicable) and the IHT threshold (if appropriate). There is also an IHT charge on assets leaving the Trust when they are eventually given to the beneficiaries.

Income Tax
Trust income is taxed at 34%, although dividend income is taxed at a special rate of 25%.

Accumulation & Maintenance Trust

Accumulation and Maintenance Trusts are a special privileged type of Discretionary Trust, usually set up by grandparents for the benefit of their grandchildren.

Capital Gains Tax
The CGT implications are the same as for Discretionary Trusts.

Inheritance Tax
The gift into Trust qualifies as a potentially exempt transfer and 100% Business Property Relief will be applicable to relevant assets. There is no ten-year charge to IHT, and no IHT when the assets are eventually given to the beneficiaries.

There is a requirement that beneficiaries must become entitled to a fixed interest in the income of the Trust before age 25, but entitlement to the capital may be deferred for a considerable time, where required.

Income Tax
Trust income is taxed at 34% (dividend income is taxed at a special rate of 25%).

Company cars

From 6 April 2002 the charge on the benefit of a company car is graduated according to carbon dioxide (CO²) emissions.

This tax charge replaces the previous scheme which included reductions for business mileage (including those for second cars) and for older cars. These reductions no longer apply.

Charges

1. For cars with a petrol engine with an approved CO² emissions figure, the charge will build up from 15% of the car's list price in 1% steps, dependent upon the level of emissions, in accordance with the following table:

• The exact CO² figure is rounded down to the nearest 5 g/km

• The price of the car, for tax purposes, is the UK list price of the car on registration plus car tax, VAT, delivery charges and relevant accessories.

For example:

2002/03 car benefit charge for petrol car with approved CO² emission factor of 222 with list price of £18,000 is calculated as £18,000 x 26% = £4,680

2. For cars with diesel engines the following supplements will be added:

• Diesel cars achieving the clean level of Euro IV standard emissions will not be subject to the above diesel supplements.

For example:

Car benefit charge for diesel car (Euro IV not achieved) with approved CO² emission factor of 187 and list price of £15,000 is calculated as £15,000 x (19 + 3)% = £3,300

3. Cars with no approved CO² emissions and cars registered before
1 January 1998 are taxed according to engine size as follows:

Fuel Benefit

Where an employer pays for any fuel used privately by an employee, there is an additional scale charge based on the size of the car's engine. Scale rates for the tax year 2001/02 are as follows:

Scale rates for 2002/03 will be announced in the Budget.

These standard charges are subject to Income Tax at the lower, basic or higher rates, depending upon the employee’s overall liability for the year. The tax due is usually collected under the PAYE system via an adjustment to the employee's code number.

Tax-Free Benefits

Car Parking
The provision of a car parking space either at or near an employee's place of work is not currently an assessable benefit.

Pool Cars
There is no tax charge for using a pool car. (A pool car is defined as one where private use is 'merely incidental' to business use, where it is not normally used by any single employee to the exclusion of others, and where it is not normally kept overnight at or near an employee's home.)

'Lower-paid' Employees
The provision of a car for an employee (not a director) who is paid at a rate of less than £8,500 per year including the value of all benefits & reimbursed expenses does not attract any charge to car or fuel benefit.

Business use of an Employee's own Car

Many employees are reimbursed for the business use of their own car. The maximum amount of mileage allowance that can be received without paying tax is as follows:

If more than the above 'approved mileage allowance payment' (AMAP) is received, tax is payable on the excess.

Reporting Details

Provision of company cars and fuel benefits must be reported on a form P11D/P9D for directors and relevant employees.

Mileage payments in excess of the approved allowances must also be reported on form P11D/P9D. The individual then makes a claim for the approved allowance by completing the appropriate section on his or her tax return.

Self assessment

Many people incur penalties for failing to submit their Self Assessment Tax Return on time.

The SA Tax Return is a comprehensive form, with a number of accompanying schedules - but you need only complete those schedules relevant to your circumstances.

You (or your adviser) must submit your SA Tax Return including the calculation of your tax liability by 31 January of the year following, e.g. the Return covering income for the year ended 5 April 2007 must be submitted by 31 January 2008.

If you prefer, the Inland Revenue will work out your tax liability for you - but you only have until 30 September of the same year to supply all the necessary information and your completed Tax Return.

• There are random checks on completed Tax Returns.

• There are automatic fixed penalties for late Tax Returns.

• There are variable penalties for incorrect Tax Returns.

• There are interest charges (and surcharges) for tax paid late.

If you're an employee:

The PAYE system itself was more or less unaffected by the introduction of Self Assessment but you are subject to SA rules if you need to complete a Tax Return.

Remember, it's up to you to tell the Inland Revenue about anything that may have a bearing on your tax affairs - you cannot use the fact that you were not sent a Tax Return as an excuse. If necessary, you must ask for one.

If your tax affairs are not up to date, you should consider a complete review. Many people on PAYE never complete a Tax Return and never check their codings. As a result, some are paying too much tax. Others are paying too little and are building up a tax problem for the future.

If you have retired:

The deduction of tax at source from most pensions and investments is unaffected by Self Assessment.

You should, however, check to make sure that the right amount of tax is being deducted from your pension(s) etc. as the Inland Revenue will not necessarily do this for you.

There are still millions of pounds of unclaimed tax refunds being held by the Inland Revenue, a large proportion of which relates to retired people.

If you're an employer:

You need to check the requirements to provide information to the Inland Revenue, your employees and your former employees.

You must also ensure that you are keeping adequate and appropriate records.

If you're self employed:

Payments on account of tax liability are due on 31 January and 31 July, with a balancing payment (or refund) to be made on the following 31 January. It is worth remembering that any balancing payment must be made at the same time as the first interim payment for the following year, and that interim payments can be reduced where circumstances have changed.

Self Assessment has also led to more emphasis being placed on the ability to justify the figures included in the business accounts section of the SA Tax Return. You can face a fine of up to £3,000 if your accounting records are considered to be 'inadequate' (see our Quick Guide to Record Keeping).

If you're a subcontractor:

If you're a subcontractor in the construction industry, the recent changes may mean that you are no longer entitled to receive payments without deduction of tax, due to the 'turnover tests'.

Applications for exemption certificates (CIS6) will, in addition, need to be supported by evidence that your tax affairs are in good order and completely up to date.

Avoid trouble with Self Assessment. This means: 

• No outstanding Tax Returns

• No outstanding business accounts

• Maintaining adequate records

• Paying all taxes on time

Starting in business

Starting in business is never something that should be taken on lightly, but if you have the right product or service and the right approach, the rewards can be considerable.

To make the best possible start to your new business, you should consider carefully the following questions:

• Have you prepared an objective business plan?

• Do you know how much money you need to start your business?

• Do you need to raise any business finance and if so, do you need any assistance with this?

• Are you fully aware of the legal requirements placed upon you as a business proprietor?

• Have you considered how to market/advertise your business?

• Would a partnership or a limited company be a better option than being a sole trader?

• Have you considered what would happen to your business if you were unable to work, for example through ill health?

• Are you and your family prepared for the level of commitment required to succeed in business?
  

If you are unsure on any of the above, we strongly recommend that you seek proper professional advice as soon as possible.

Initial Checklist

Here's a checklist of some of the more common matters that can be easily overlooked at the start of a business and during the all-important first year:

The above list is not exhaustive and not all of the points will apply. It should, however, act both as a reminder and a prompt to seek further guidance where necessary.

Conclusion

There is a great deal of paperwork required in the correct running of a business, however small that business may be. Spending too little time on such matters can lead to serious problems (particularly with organisations such as the Inland Revenue), whereas spending too much time may lead to the business itself suffering. This is where good professional support is absolutely essential.

Give your business venture the best possible chance - by making the right start.

back to basics

Accidents I Complaints I Conveyancing Quote I Divorce and Family I DIY Law I Head Injury I Employment I EPA I Law on the Phone I Law Online I Law Student I Legal Advice I Legal Basics I Legal Fun I Legal News I Links I Mediation I Medical Negligence I Motoring Law I Press I Property Dispute I Search I Solicitors I Spinal Injury I The Law Shop I  Webster - Our Guide Dog I Wills and Probate I Home (Frames) I Home (No Frames)

Send mail to mail@lawontheweb.co.uk  with questions or comments about this web site.