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24th September 2020The reform of Capital Gains Tax

Capital Gains Tax (“CGT”) is a relative newcomer to the tax party, having been introduced to the UK in 1965, but it may be only just behind pensions in the race to be the next political talking point.

Most people understand the idea of their income being taxed at particular rates, and the higher your income the higher that rate becomes.

It is with that perspective that the media raises the notion that the lower rates of CGT are somehow “unfair”, leading to increased rates and cuts to the allowances applying to capital gains.

However, this fails to tell the whole story. Income rarely suffers from inflation; it is taxed and is available each year so in the absence of Weimar style hyper-inflation timing makes little difference.

Capital gains however are different. It is payable when the value is realised but that may have built up over many years.  An asset bought in 1990 may well have increased in value when the absolute numbers are considered- you can sell something for more pounds now than you paid for the item 30 years ago- but that doesn’t mean that you have become wealthier as a result. Those same pounds will be worth considerably less than they were when you laid them out in the first place.

This was taken into account until 1998 and for the 10 years before that the rates of income tax and CGT were the same – tax was levied on the “real terms” profit that had been made. For the next 10 years a simpler system operated, tapering the rates of tax based on the period of ownership so assets held for only a short period were taxed at rates the same as or close to the income tax rates.

From 2008 this tapering was abolished in favour of an even simpler flat rate of CGT, lower than the income tax rates to reflect the difference in the nature of the apparent profits being realised.

This disconnection between the time that assets were held and the amount of tax payable has led to more politically motivated changes being introduced, targeting the bogeyman de jour.

With the popular press commenting on the state of the residential rental sector, the rate of CGT on residential property was excluded from the 2016 reduction in the general rate applicable to shares, commercial properties, and other assets. Similarly, asset managers continue to suffer higher rates of tax on the enhanced returns they receive when delivering greater performance for their clients.

Entrepreneurs have also experienced the effects of the political currents, with the reliefs on sale swinging widely and several reliefs running simultaneously; inevitably this has led to confusion and urgent advice being taken to capitalise on reliefs while they remain available. It is arguable that tax reliefs are not only given to Entrepreneurs in order to encourage them to start businesses, but also to encourage them to leave them at the appropriate point in the business lifecycle.

With much speculation as to the manner in which the Chancellor will seek to recover the Covid-19 expenditure it can only be hoped that any changes to CGT reflect the reality that longer term gains are not the same as income and that business reliefs both promote investment and discourage stagnation.

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