Chargeable gains, part 1

This two-part article is relevant to those of you who are taking TX-UK in an exam in the period 1 June 2023 to 31 March 2024, and is based on tax legislation as it applies to the tax year 2022–23 (Finance Act 2022).

Scope of capital gains tax (CGT)

CGT is charged when there is a chargeable disposal of a chargeable asset by a chargeable person.

A chargeable disposal includes part disposals and the gift of assets. However, the transfer of an asset upon death is an exempt disposal. A person who inherits an asset will take it over at its value at the time of death.

EXAMPLE 1
On 19 May 2008, Jorge purchased a hectare of land for £20,200. He died on 20 June 2022, and the land was inherited by his son William. On that date, the land was valued at £71,600.

• The transfer of the land on Jorge’s death is an exempt disposal for CGT.
• William will take over the land with a base cost of £71,600.

All forms of property are chargeable assets unless exempt. The most important exempt assets as far as TX-UK is concerned are:

• Certain chattels (see later)
• Cars
• UK Government securities (gilts)

In determining whether or not an individual is chargeable to CGT, it is necessary to consider their residence status.

EXAMPLE 2
Explain when a person will be treated as resident in the UK for a particular tax year, and state how a person’s residence status establishes whether or not they are liable to CGT.

Subject to not meeting any of the automatic non–resident tests, the following people will be treated as resident:

• A person who is in the UK for 183 days or more during a tax year.
• A person whose only home is in the UK.
• A person who carries out full time work in the UK.

A person can also be treated as resident if they have more UK ties than is permitted according to the number of days they are in the UK during a tax year.

A person is liable to CGT on the disposal of assets during any tax year in which they are resident in the UK.

Basic computation

For individuals, the basic CGT computation is quite straightforward.

EXAMPLE 3
Andy sold a factory on 15 February 2023 for £320,000. The factory was purchased on 24 January 2004 for £164,000, and was extended at a cost of £37,000 during March 2014. During May 2016, the roof of the factory was replaced at a cost of £24,000 following a fire.

Andy incurred legal fees of £3,600 in connection with the purchase of the factory, and legal fees of £5,400 in connection with the disposal.

Andy’s taxable gain for 2022–23 is:

• The factory extension is enhancement expenditure because it has added to the value of the factory.
• The replacement of the roof is not enhancement expenditure, being in the nature of a repair.
• Note that the standardised terms ‘chargeable gain’ or ‘chargeable gains’ refer to the gain(s) before deducting the annual exempt amount and any brought forward capital losses. The terms ‘taxable gain’ or ‘taxable gains’ refer to the gain(s) after deducting the annual exempt amount and any brought forward capital losses.

Capital losses

Capital losses are set off against any chargeable gains arising in the same tax year before deducting the annual exempt amount. This order of set off can lead to capital losses being wasted if gains would otherwise have been covered by the annual exempt amount.

Any unrelieved capital losses are carried forward, but in future years they are set off against any chargeable gains after deducting the annual exempt amount. This means that brought forward capital losses are never wasted in the same manner as current year capital losses.

EXAMPLE 4
For the tax year 2022–23, Nim has chargeable gains of £18,300 and capital losses of £15,800.

Nim’s taxable gains for 2022–23 are:

There are no capital losses to carry forward. Nim has effectively wasted £9,800 (12,300 – 2,500) of capital losses.

If the capital losses of £15,800 had instead been brought forward from the tax year 2021–22, Nim’s taxable gains for 2022–23 would have been:

• After deducting the annual exempt amount, only £6,000 of the brought forward capital losses are set off.
• Nim now has capital losses carried forward of £9,800 (15,800 – 6,000).

Rates of capital gains tax

The rate of CGT is linked to the level of a person’s taxable income. Taxable gains are taxed at a lower rate of 10% where they fall within the basic rate tax band of £37,700, and at a higher rate of 20% where they exceed this threshold.

However, for chargeable gains arising from the disposal of residential property, the lower rate is 18% and the higher rate is 28%. These residential property rates apply where a gain arising from the disposal of residential property is not fully covered by the private residence exemption (see later in this article).

Remember that the basic rate tax band is extended if a person pays personal pension contributions or makes a gift aid donation.

Payments on account for disposals of residential property

A payment on account must be made within 60 days of the date of disposal (completion date), where CGT is payable in respect of a disposal of residential property. A return must be submitted to HM Revenue and Customs (HMRC) at the same time.

The calculation of the payment on account takes into account the annual exempt amount, any capital losses incurred in the same tax year prior to the disposal of the residential property, plus any brought forward capital losses. Any other chargeable gains and capital losses incurred subsequent to the disposal of the residential property are ignored.

It is necessary to make an estimate as to how much of the taxpayer’s basic rate tax band will be available for the tax year.

EXAMPLE 5
Zack, a higher rate taxpayer, had the following chargeable gains and capital losses during the tax year 2022–23:

• 10 April 2022 – Capital loss of £4,600 from the disposal of shares.
• 31 May 2022 – Chargeable gain of £28,200 from the disposal of shares.
• 31 August 2022 – Chargeable gain of £82,000 from the disposal of residential property.
• 10 March 2023 – Capital loss of £14,000 from the disposal of shares.

A payment on account of CGT will have been made on 30 October 2022 in respect of the residential property disposal on 31 August 2022, calculated as:

Self-assessment

CGT is otherwise collected as part of the self-assessment system, and is due in one amount on 31 January following the tax year. Therefore, a CGT liability for the tax year 2022–23 will be payable on 31 January 2024.

Self-assessment payments on account are not required in respect of CGT.

A residential property gain is still included in the self-assessment computation, with the payment on account deducted from the total CGT liability.

Example 6
For the tax year 2022–23, Adam has a salary of £44,000. During the year, he made net personal pension contributions of £4,400. On 15 June 2022, Adam sold an antique table and this resulted in a chargeable gain of £21,800.

For the tax year 2022–23, Bee has a trading profit of £60,000. On 20 August 2022, she sold an antique vase and this resulted in a chargeable gain of £20,100.

For the tax year 2022–23, Chester has a salary of £43,500. On 31 October 2022, he sold a residential property and this resulted in a chargeable gain of £47,300.

Adam
Adam’s taxable income is £31,430 (44,000 less the personal allowance of 12,570). His basic rate tax band is extended to £43,200 (37,700 + 5,500 (4,400 x 100/80)), of which £11,770 (43,200 – 31,430) is unused.

Adam’s taxable gain of £9,500 (21,800 less the annual exempt amount of 12,300) is fully within the unused basic rate tax band, so his CGT liability for 2022–23 is therefore £950 (9,500 at 10%). This will be due on 31 January 2024.

Bee
Bee’s taxable income is £47,430 (60,000 – 12,570), so all of her basic rate tax band has been used. The CGT liability for 2022–23 on her taxable gain of £7,800 (20,100 – 12,300) is therefore £1,560 (7,800 at 20%). This will be due on 31 January 2024.

Chester
Chester’s taxable income is £30,930 (43,500 – 12,570), so £6,770 (37,700 – 30,930) of his basic rate tax band is unused. The CGT liability on Chester’s taxable gain of £35,000 (47,300 – 12,300) is therefore:

Assuming Chester’s income for the tax year 2022–23 was correctly estimated at the time of the residential property disposal, his CGT liability of £9,123 will have been paid 60 days after the disposal (30 December 2022), with no adjustment necessary under the self-assessment system.

Although a payment on account is required in respect of a residential property gain, additional CGT may be payable on 31 January following the tax year. If a repayment is due, this will be claimed when the self-assessment tax return for the tax year is submitted.

EXAMPLE 7
Continuing with example 5, Zack will have to pay the following additional CGT on 31 January 2024:

Capital gains tax:

The capital losses and the annual exempt amount are set against the residential property gain because this approach saves CGT at 28% compared to 20% if initially set against the other gain.

As shown in example 7 above, where a person has both residential property gains and other gains, the annual exempt amount and any capital losses should initially be deducted from the residential property gains. This approach will save CGT at either 18% or 28%, compared to either 10% or 20% if used against the other gains.

However, how any unused basic rate tax band is allocated between chargeable gains does not make any difference to the overall CGT liability (since the differential is 10% in both cases).

EXAMPLE 8
For the tax year 2022–23, Douglas does not have any income. On 15 June 2022, he sold an antique vase and this resulted in a chargeable gain of £19,000. On 28 August 2022, he sold a residential property and this resulted in a chargeable gain of £39,800.

Ignoring the payment on account in respect of the residential property gain, Douglas’ CGT liability is:

Capital gains tax:

• The annual exempt amount is set against the residential property gain.
• The CGT liability could alternatively be calculated as:

Business asset disposal relief

A reduced CGT rate of 10% applies if a disposal qualifies for business asset disposal relief. This rate applies regardless of the level of a person’s taxable income. Business asset disposal relief can be claimed when an individual disposes of a business or a part of a business as follows:

• A disposal of the whole or part of a business run as a sole trader. Relief is only available in respect of chargeable gains arising from the disposal of assets in use for the purpose of the business. This will exclude chargeable gains arising from investments.
• The disposal of shares in a trading company where a 5% shareholding condition is satisfied and the individual is also an officer or an employee of the company. Provided the limited company is a trading company, there is no restriction to the amount of relief if it holds non-trading assets such as investments.

The relief covers the first £1 million of qualifying gains which a person makes during their lifetime. Gains in excess of the £1 million limit are taxed as normal at the 10% or 20% rates.

The qualifying conditions must be met for a period of two years prior to the date of disposal in order for business asset disposal relief to be available.

EXAMPLE 9
On 15 October 2022, the four shareholders of Alphabet Ltd, an unquoted trading company, all sold their shares in the company. Alphabet Ltd has a share capital of 100,000 £1 ordinary shares.

Aloi had been the managing director of Alphabet Ltd since the company’s incorporation on 1 January 2012. She had held 60,000 shares since 1 January 2012.

Bon had been the sales director of Alphabet Ltd since 1 February 2021, having not previously been an employee of the company. She had held 25,000 shares since 1 February 2021.

Cherry had never been an employee or a director of Alphabet Ltd. She had held 12,000 shares since 27 July 2015.

Dee had been an employee of Alphabet Ltd since 1 May 2013. She had held 3,000 shares since 20 June 2014.

• Aloi’s disposal qualified for business asset disposal relief because she was a director of Alphabet Ltd, had a shareholding of 60% (60,000/100,000 x 100), and these qualifying conditions were met for two years prior to the date of disposal.
• Bon’s disposal did not qualify for business asset disposal relief because she only acquired her shareholding and became a director on 1 February 2021. The qualifying conditions were therefore not met for two years prior to the date of disposal.
• Cherry’s disposal did not qualify for business asset disposal relief because she was not an officer or an employee of Alphabet Ltd.
• Dee’s disposal did not qualify for business asset disposal relief because her shareholding of 3% (3,000/100,000 x 100) was less than the minimum shareholding requirement of 5%.

EXAMPLE 10
On 25 January 2023, Michael sold a 30% shareholding in Green Ltd, an unquoted trading company. The disposal resulted in a chargeable gain of £800,000. Michael had owned the shares since 1 March 2016, and was an employee of the company from that date until the date of disposal.

He has taxable income of £8,000 for the tax year 2022–23.

Michael’s CGT liability for 2022–23 is:

Although chargeable gains which qualify for business asset disposal relief are always taxed at a rate of 10%, they must be taken into account when establishing which rate applies to other chargeable gains. Chargeable gains qualifying for business asset disposal relief therefore reduce the amount of any unused basic rate tax band.

The annual exempt amount and any capital losses should be initially deducted from those chargeable gains which do not qualify for business asset disposal relief (giving preference to any residential property gains). This approach will save CGT at 20% (18% or 28% if residential property gains are involved), compared to just 10% if used against chargeable gains which do qualify for relief.

There are several ways of presenting computations involving such a mix of gains, but the simplest approach is to keep gains qualifying for business asset disposal relief and other gains separate.

EXAMPLE 11
On 30 September 2022, Mika sold a business which she had run as a sole trader since 1 January 2016. The disposal resulted in the following chargeable gains:

The assets were all owned for more than two years prior to the date of disposal. The warehouse had never been used by Mika for business purposes.

Mika has taxable income of £8,000 for the tax year 2022–23. She has unused capital losses of £28,000 brought forward from the tax year 2021–22.

Mika’s CGT liability for 2022–23 is:

• The annual exempt amount and the capital losses are set against the chargeable gain on the sale of the freehold warehouse because this does not qualify for business asset disposal relief.
• £29,700 (37,700 – 8,000) of Mika’s basic rate tax band is unused, but this is set against the gains qualifying for business asset disposal relief of £630,000 even though this has no effect on the 10% tax rate.

Where the £1 million lifetime limit is exceeded, gains in excess of the limit will be subject to the normal rates of capital gains tax.

EXAMPLE 12
On 10 December 2022, Raj sold a 45% shareholding in Splash Ltd, an unquoted trading company. The disposal resulted in a chargeable gain of £1,300,000 which qualifies for business asset disposal relief. Raj is a higher rate taxpayer and has not made any previous disposals qualifying for relief.

Raj’s CGT liability is:

Married couples

Transfers between spouses (and between partners in a registered civil partnership) do not give rise to any chargeable gain or capital loss. This does not mean that the disposal is exempt from CGT; it means that there is no charge at the time of the transfer as the transferee takes over the original cost of the asset.

EXAMPLE 13
Bill and Cathy are a married couple. They disposed of the following assets during the tax year 2022–23:

• On 10 July 2022, Bill and Cathy sold a residential property for £380,000. The property had been purchased on 1 December 2019 for £290,000. No private residence relief is available.
• On 5 August 2022, Bill transferred his entire shareholding of 20,000 £1 ordinary shares in Elf plc to Cathy. On that date the shares were valued at £64,000. Bill’s shareholding had been purchased on 21 September 2020 for £48,000.
• On 7 October 2022, Cathy sold the 20,000 £1 ordinary shares in Elf plc which had been transferred to her from Bill. The sale proceeds were £70,000.

Bill and Cathy each have taxable income of £60,000 for the tax year 2022–23.

Jointly owned property

• The chargeable gain on the residential property is £90,000 (380,000 – 290,000).
• Bill and Cathy will each be assessed on £45,000 (90,000 x 50%) of the chargeable gain

The transfer of the 20,000 £1 ordinary shares in Elf plc to Cathy does not give rise to any chargeable gain or capital loss, because it is a transfer between spouses.

• Bill’s original cost is used in calculating the chargeable gain on the disposal of the shares in Elf plc.
• For both Bill and Cathy, the payment on account implications of the residential property gain have been ignored because only the total CGT liability is relevant in this example.

It may be the case that one spouse has not utilised their annual exempt amount and/or basic rate tax band for a particular tax year. It could therefore be beneficial to transfer an asset to that spouse before its disposal, or to put an asset into joint names prior to disposal.

EXAMPLE 14
For the tax year 2022–23, Jane is a higher rate taxpayer but her husband Claude does not have any taxable income. During March 2023, Jane is going to dispose of a residential property, and this will result in a chargeable gain of £120,000.

If 50% ownership of the property is transferred to Claude prior to its disposal, this will enable his annual exempt amount and basic rate tax band for 2022–23 to be utilised. The CGT saving for the couple will be £7,214:

Part disposals

When just part of an asset is disposed of, the cost must be apportioned between the part disposed of and the part retained (by reference to the current market value).

EXAMPLE 15
On 16 February 2023, Joan sold three hectares of land for £285,000. She had originally purchased four hectares of land on 17 July 2021 for £220,000. The market value of the unsold hectare of land as at 16 February 2023 was £90,000.

• The cost relating to the three hectares of land sold is £167,200 (220,000 x 285,000/(285,000 + 90,000)).
• The chargeable gain on the land is therefore £117,800 (285,000 – 167,200).
• The base cost of the remaining hectare of land is £52,800 (220,000 – 167,200).

With part disposals, care must be taken with enhancement expenditure and incidental costs as these could relate to the whole asset or just to the part being disposed of.

EXAMPLE 16
On 20 February 2023, Furgus sold a hectare of land for £130,000. He had originally purchased four hectares of land on 13 April 2011 for £210,000. During January 2023, Furgus spent £22,800 clearing and levelling all four hectares of land. The market value of the unsold three hectares of land as at 20 February 2023 was £350,000. Furgus incurred legal fees of £3,200 in connection with the disposal.

Furgus’ chargeable gain for 2022–23 is:

• The cost relating to the hectare of land sold is £56,875 (210,000 x 130,000/(130,000 + 350,000)).
• The cost of clearing and levelling the land is enhancement expenditure. The cost relating to the hectare of land sold is £6,175 (22,800 x 130,000/480,000).
• The legal costs relate entirely to the hectare of land sold, and so they are not apportioned.

Chattels

Special rules apply to chattels. A chattel is tangible moveable property.

Wasting chattels (except chattels which are eligible for capital allowances) are exempt from CGT.

Non-wasting chattels (and chattels eligible for capital allowances) are only exempt if both bought and sold for less than £6,000.

EXAMPLE 17
On 18 August 2022, Gloria sold an antique table for £5,600 and an antique vase for £7,200. The antique table had been purchased on 27 May 2021 for £3,200 and the antique vase had been purchased on 14 June 2021 for £3,700.

• The antique table is exempt from CGT because the gross sale proceeds and the cost were both less than £6,000.
• The chargeable gain on the antique vase is restricted to £2,000 ((7,200 - 6,000) x 5/3) because this is less than the normal gain of £3,500 (7,200 - 3,700).

Where a non-wasting chattel is sold at a loss and the sale proceeds are less than £6,000, the amount of allowable capital loss will be restricted. If capital allowances have been claimed on a chattel, no capital loss will be available at all.

EXAMPLE 18
Giles sold the following assets during the tax year 2022–23:

On 3 February 2023, he sold an antique table for £4,700. The table had been purchased on 2 May 2012 for £10,200.

On 12 March 2023, he sold machinery for £22,600. The machinery had been purchased on 1 June 2019 for £34,000. Giles claimed capital allowances totalling £11,400 in respect of this machinery.

Table

• The table has been sold for less than £6,000, so the proceeds are deemed to be £6,000 (rather than £4,700).
• The allowable capital loss is therefore £4,200 (6,000 - 10,200).

Machinery

• The cost of £34,000 is reduced by the capital allowances claimed of £11,400, giving an allowable cost of £22,600.
• Since the proceeds are also £22,600, the disposal is on a no gain, no loss basis.

Wasting assets

A wasting asset is one which has a remaining useful life of 50 years or less. The cost of such an asset must be adjusted for the expected depreciation over the life of the asset.

EXAMPLE 19
On 31 March 2023, Mung sold a copyright for £9,600. The copyright had been purchased on 1 April 2018 for £10,000 when it had an unexpired life of 20 years.

The chargeable gain on the copyright is:

The cost of £10,000 is depreciated based on an unexpired life of 20 years at the date of acquisition and an unexpired life of 15 years at the date of disposal.

Insurance proceeds

If an asset is lost or destroyed, the receipt of insurance proceeds is treated as a normal disposal. However, rollover relief is available if the insurance monies are used to purchase a replacement asset within a period of 12 months.

EXAMPLE 20
On 20 October 2022, an antique table owned by Claude was destroyed in a fire. The table had been purchased on 23 November 2020 for £50,000. Claude received insurance proceeds of £74,000 on 6 December 2022 and on 18 December 2022 he paid £75,400 for a replacement table.

• The insurance proceeds of £74,000 received by Claude have been fully reinvested in a replacement table.
• There is therefore no disposal on the receipt of the insurance proceeds.
• The gain of £24,000 (insurance proceeds of £74,000 less original cost of £50,000) is set against the cost of the replacement table, so its base cost is £51,400 (75,400 – 24,000).

If the insurance proceeds are not entirely reinvested there will be an immediate chargeable gain.

EXAMPLE 21
Continuing with example 20, assume that the replacement table only cost £71,500.

• The insurance proceeds not reinvested of £2,500 (74,000 – 71,500) are taxed as a chargeable gain in 2022–23.
• The balance of the gain of £21,500 (24,000 – 2,500) is set against the cost of the replacement table, so its base cost is £50,000 (71,500 – 21,500).

If an asset is damaged, the receipt of insurance proceeds is treated as a part disposal. However, if all the proceeds are used to restore the asset, a claim can be made to ignore the part disposal rules.

EXAMPLE 22
On 1 October 2022, an antique carpet owned by Juliet was damaged by a flood. The carpet had been purchased on 17 November 2018 for £69,000. Juliet received insurance proceeds of £12,000 on 12 December 2022 and she spent a total of £13,400 during December 2022 restoring the carpet. Juliet has made a claim to ignore the part disposal rules.

• The insurance proceeds of £12,000 received by Juliet have been fully applied in restoring the carpet.
• There is therefore no disposal on the receipt of the insurance proceeds.
• The revised base cost of the carpet is £70,400 (69,000 – 12,000 + 13,400).

Private residence relief

A gain on the disposal of a private residence is exempt where the owner has occupied the house throughout the whole period of ownership. The final nine months of ownership are always treated as a period of occupation. The following periods of absence are also deemed to be periods of occupation:

(a) Periods up to a total of three years for any reason.

(b) Any periods where the owner is required to live abroad due to their employment.

(c) Periods up to four years where the owner is required to live elsewhere in the UK due to their work.

These deemed periods of occupation must normally be preceded and followed by actual periods of occupation. However, the condition that the period of absence must be followed by a period of occupation is relaxed in the case of (b) and (c) if the owner is unable to return because they are required to reside elsewhere due to the terms of their employment.

EXAMPLE 23
On 30 September 2022, Hue sold a house for £381,900. The house had been purchased on 1 October 2002 for £141,900.

Hue occupied the house as her main residence from the date of purchase until 31 March 2006. The house was then unoccupied between 1 April 2006 and 31 December 2009 due to Hue being required by her employer to work elsewhere in the UK.

From 1 January 2010 until 31 December 2016, Hue again occupied the house as her main residence. The house was then unoccupied until it was sold on 30 September 2022.

The chargeable gain on the house is:

• The total period of ownership of the house is 240 months (180 + 60), of which 180 months qualify for exemption:

• No part of the unoccupied period from 1 January 2017 to 31 December 2021 qualifies as a period of deemed occupation because it was not followed by a period of actual occupation.
• Private residence relief is therefore £180,000 (240,000 x 180/240).

Where part of a property is used exclusively for business use, private residence relief will be restricted.

EXAMPLE 24
On 30 September 2022, Mae sold a residential property for £326,000. The property had been purchased on 1 October 2012 for £122,000. Throughout the period of ownership, the property was occupied by Mae as her main residence, but two of the property’s eight rooms (25% of the property) were always used exclusively for business purposes by Mae.

The chargeable gain on the property is:

Private residence relief is restricted to £153,000 (204,000 x 75%).

Letting relief

Letting relief is only available where a property is let out and the property owner is in shared occupancy with the tenant.

There is therefore no relief where the whole property is let out, such as in example 23 above.

EXAMPLE 25
Continuing with example 24, but assume that the two rooms were instead always let out exclusively to tenants.

The chargeable gain on the house is:

Letting relief is the lower of:

• £40,000
• £153,000 (the amount of private residence relief)
• £51,000 (the amount of the non-exempt gain attributable to the letting (204,000 x 25%))

The second part of the article will cover shares, reliefs, basic CGT planning and the way in which gains made by limited companies are taxed. It also contains some exam guidance and a test of your understanding.

Written by a member of the TX-UK examining team