Capital Gains Tax increases – looking beyond the headlines

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Readers cannot fail to have seen the recent newspaper headlines announcing the likely doubling of Capital Gains Tax (CGT) rates. This has naturally created alarm and worry for those planning to sell assets in the next few years.

It goes without saying that The Chancellor of the Exchequer is facing a huge budget deficit made much worse by the Pandemic. We will find out more in the Budget at the beginning of March as to whether taxes will increase this year or wait until the economy is stronger. Many economists favour deferring tax increases as they say that increasing taxes on businesses and individuals too soon will strangle economic growth.

The newspaper headlines followed the publication of a report from the Office of Tax Simplification (OTS) in November 2020. The OTS are independent of Government and although the report was commissioned by The Chancellor of the Exchequer, this does not mean that all or any of the recommendations will be implemented.

So, what were the recommendations, and how will they affect farmers and landowners?

1. Increasing the rates of CGT

The OTS talks about a “closer alignment” of CGT and Income Tax rates, in order to reduce distortions in behaviour. This is not the same as a recommendation to make the rates 40%. Previous Chancellors have stated that increasing CGT rates would not raise much tax revenue as it will deter property owners from selling assets. Thus The Chancellor needs to strike a balance.

2. A return for indexation

The OTS recommended that if the rates of CGT increase, that some form of relief for inflation should be reintroduced. Until 2008, we had a system of indexation which meant that the purchase price of an asset was increased by inflation. For example, land inherited in 2000 with a probate value of £4,000 per acre might be increased to £6,800 per acre with inflation of about 70% since then.

For sales of commercial farmland, this could mean similar or lower tax bills even though the rate of tax increased. For sales of development land or other assets with a low base cost, indexation will be of less help.

3. Rebasing of base costs

For many years we have had a system whereby assets owned long-term are rebased to their value in 1982. This is now almost 40 years ago, so the OTS have suggested using the year 2000 as a starting point for assets owned on that date. Again for sales of commercial farmland, this could counteract any increase in CGT rates.

4. Entrepreneurs’ Relief

This relief enables a 10% rate of tax to be paid on the sale of certain business assets. It was curtailed and renamed in the March 2020 Budget, so it is now limited to £1 million of gains per person, and is now called Business Asset Disposal Relief (BADR). The OTS recommended that BADR be abolished and replaced with a relief “more focused on retirement”. These changes may impact on business restructuring and partial sales, but have less of an effect on full farm sales.

5. Uplift on death

Currently, anyone selling land shortly after inheriting it will pay little if any CGT. This is due to the CGT uplift which rebases the land to its value at the date of death. The OTS recommends that this uplift be removed and CGT based on the original cost of the asset. This may be the most important recommendation from the OTS and may encourage more landowners, particularly those also worried about Inheritance Tax (IHT) changes, to make lifetime gifts than at present.

6. CGT on gifts of assets

Agricultural land already has a favourable treatment if gifted during lifetime. A capital gain arises, but this can be deferred by the making of a holdover election. The OTS recommended that holdover elections be permitted for a greater range of assets in order to encourage gifting assets to the younger generation at an earlier time. At present, the gifting of an investment asset, such as a let cottage, just before death can incur both a CGT and IHT liability on the same transaction. Therefore this would be a welcome change.

It is, of course, possible that a Chancellor needing to raise taxes will only implement the recommendations that increase revenue. However, CGT as a percentage of total tax revenue is very small, and it is to be hoped that either the Chancellor decides to leave well alone, or implement all the recommendations. This might have the unexpected result that the tax payable on some land sales might actually decrease!