Capital gains tax, inheritance tax and tax rules for non-domiciled people living in the UK dominated the fiscal agenda in the Chancellor Alistair Darling’s first pre-Budget report.
Will the introduction of a standard 18% rate for capital gains tax and the abolition of taper relief really hit private equity bosses? Or will the effect be harder felt by small business owners who sell up? What is the impact for equity investments in AIM-listed companies? And is there a boost for buy-to-let investors?
On inheritance tax, are the changes really a tax cut, or a mere simplification of the qualifying rules for existing allowances? And on the consultation on the tax affairs of the non-domiciled in the UK, what would be the impact of a flat rate levy after seven years?
Matthew Vincent, the FT‘s personal finance editor, answered your questions live online on Thursday 11 October on the following general topics:
• Capital gains tax
• Inheritance tax
• Non-domiciled status
• State pensions
Capital gains tax
Does this new capital gains tax ruling mean that I will only pay 18% tax on my share dealings even if I am a 40% higher band tax rate payer? Also does it mean that if I were to sell a buy-to-let property that I own, I would only have to pay 18% on that gain as well?
Matthew Vincent: The good news is: yes it does! The Pre-Budget Report has scrapped the exisiting capital gains tax (CGT) system, which saw gains above the personal allowance of £9,200 taxed at 40 per cent if you were a higher rate tax payer, with the rate effectively reduced by taper relief over a period of two to ten years (depending on the type of asset you held). Now there is a flat rate of 18 per cent on gains from shares and property. So, if you’re a 40 per cent tax payer, and your shares are listed on the main market (or another recognised exchange), instead of paying tax at a rate between 40 and 24 per cent (depending on the taper relief you qualify for), you’ll pay 18 per cent. Similarly, you’ll pay 18 per cent on any gain in your buy-to-let property. If, however, you deal in shares on the Alternative Investment Market that qualify as business assets, you will lose the accelerated taper relief that sees your capital gains tax rate fall to 10 per cent after two years. So in this case, you could end up paying a higher rate of 18 per cent.
What do the astonishing capital gains tax changes mean for AIM stocks? Clearly their business asset CGT benefit is going, but does this also impact their inheritance tax friendly features after two years? If so, is this not a massive blow to AIM and its investors?
Matthew Vincent: Those astonishing changes mean that Aim stocks do lose business asset taper relief (BATR), so it will not be possible to reduce the capital gains tax on them to 20 per cent after 1 year, or 10 per cent after two years. Instead, you’ll pay the 18 per cent flat rate on gains. However, Aim stocks retain their inheritance-tax friendly features - effectively being removed from your estate for inheritance purposes after two years. This has not changed - but the use of inheritance tax allowances has changed, allowing couples and civil partners to shelter up to £600,000 from tax more easily.
Some commentators have suggested this might prompt a sell-off of Aim stocks, and make Aim inheritance-tax portfolio services less attractive. That seems unlikely, though. Graham Neale of Killik & Co yesterday said: ”The ability of married couples to combine their IHT allowance of £300k to their surviving spouse is unlikely to impair the growth of the market for AIM IHT portfolios - because many investors currently have assets significantly over this level.”
Have the capital gains allowances (£9220 for 07-08) been removed or changed?
Matthew Vincent: No, the capital gains tax allowance for individuals hasn’t been removed, and it is generally increased in the Budget each year. So it can still be used to take gains tax-free, and will probably be higher in the next tax year.
Would it be beneficial for me to sell my business after April 2008 or before?
Matthew Vincent: When to sell a business is something that must be decided in the context of your overall financial planning - your current income requirements, and your needs in retirement. But if you were already planning to sell the business in the next few months, then there may be a tax benefit in selling before April 2008. That’s because the gain you make on the sale may qualify for business asset taper relief (BATR). Whether it does will depend on the business activity, and you may need to take advice on this. If it does qualify, though, and you sell before April 2008, you can claim the taper relief to reduce your rate of capital gains tax to 10 per cent if you’ve owned the business for more than two years. If you sell after April 2008, the new capital gains tax flat-rate of 18 per cent will apply. So you may save tax by selling before April - but talk to a good business accountant first.
I thought there was no inheritance tax between married couples in the first place. I am confused, what does this change really mean?
Matthew Vincent: You’re quite right - a husband or wife can, on death, pass assets to his or her surviving spouse free of inheritance tax. But this is where many couples’ inheritance tax planning ran into difficulty. If a husband passed his estate to his wife, for example, he would not be taking advantage of his inheritance tax allowance (called the ’nil-rate band’), which is currently £300,000. On his wife’s death, the whole estate would then be assessed for inheritance tax, with only the wife’s £300,000 allowance to set against it. So if it included a property, it was increasingly likely that the total estate would exceed the £300,000 allowance, and tax would be due. What the Pre-Budget Report has done is make the husband’s £300,000 allowance transferable to the wife (or vice versa), giving a total allowance of £600,000 when the second partner dies. This will allow couples to make maximum use of their individual allowances.
I have been widowed for 10 years. Do the changes to inheritance tax mean that I now have an allowance of £600,000?
J McNeill, Glasgow
Matthew Vincent: It could do. The changes mean that married couples and civil partners will be able to share their inhertiance allowances (known as ’nil-rate bands’) so that unused parts of the allowance will be available to the surviving partner on the first death. This sharing of allowances has been backdated to include estates currently held by widows and widowers. So the total allowance that you have for inheritance tax will depend on how much of your late spouse’s allowance was used up, when he or she died. If you inherited all of your late spouse’s estate, his or her allowance would not have been used at all - because transfers between husband and wife are tax free. So, if that’s the case, you can now use his or her £300,000 allowance, plus your own £300,000 allowance, making a total of £600,000.
I have read of the impact of the inheritance tax on couples and civil partners but what effect does this have, if any, on unmarried couples living together?
Dinesh Pathak, London
Matthew Vincent: The transferability of inheritance tax allowances announced in the Pre-Budget Report does not apply to couples living together, to unmarried or non-Civil Partnership couples, or even to siblings who live together and have joint finances. It seems that both the major political parties are now in favour of using the tax system to incentivise marriage!
My husband is Canadian and has non-domiciled status. When is the Chancellor changing the rules, and do we need to change his status immediately? We could not possibly afford to pay to keep him as a non-domiciled resident.
Matthew Vincent: If you listened to the chancellor’s statement, you might think these changes to non-domicile status don’t come in for seven years. But Mike Warburton, Senior Tax Partner at Grant Thornton, has pointed out: ”the clock is already ticking and anyone who became resident in the UK before 5 April 2001 will pay the [£30,000 annual] fee from 5 April 2008.”
More detailed legislation is expected before the end of the year, and will be effective from 6 April 2008. So most tax advisers say that non-domiciled individuals will have to undertake a significant review of all of their affairs before 6 April 2008 to ensure that the impact of the changes is minimised as far as possible.
Will individuals who are domiciled abroad but resident in the UK be given the option to be taxed on their worldwide income rather than pay the £30,000 p.a.? What are the ceased source rules and have they already been terminated?
Ali Hossein, London
Matthew Vincent: Basically, from 6 April 2008, individuals will have to make a choice. This has been explained very clearly by tax advisers Tenon. UK residents who are not domiciled or ordinarily resident in the UK are currently only taxed on their worldwide income and gains to the extent that they ”remit” the funds to the UK. But from 6 April next year, once non-domiciled individuals have been resident in the UK for seven years they will only be able to use the remittance basis if they pay an additional tax charge of £30,000 per annum. They do have an option not to pay this, though, which will mean they are taxed on their worldwide income and gains whether or not they are remitted to the UK. In addition, individuals who are resident but not domiciled in the UK will not be able to use the remittance basis and have the benefit of a personal allowance, unless their unremitted foreign income is less than £1,000 per annum.
Can you please clarify the suggestion that those who are not domiciled but have been resident for tax purposes for over ten years might lose their personal allowances? Is this going to be regardless of election for taxation of worldwide income in the UK?
Borzou Aram, England
Matthew Vincent: More detailed legislation on this is expected. But, based on the information given in the pre-Budget report, if individuals who are resident but not domiciled in the UK choose not to pay the new £30,000 fee, they will not be able to use the ”remittance basis” and have the benefit of a personal allowance, unless their unremitted foreign income is less than £1,000 a year. That means those who don’t pay the fee and choose to be taxed on worldwide income in the UK will effectively lose their personal allowance. Those who do pay the fee, pay a fixed amount of £30,000 regardless of income, so the personal allowance is not relevant to them.
One of your articles mentioned a change in the Second State Pension (Serps) affecting rich older couples. Can you tell us what this is? Should people now contract out of it again? Is this another pension raid?
Andrew Shaw, London
In simple terms, a cap is being put on the second state pension which will hit those earning more than £35,000 a year. This is estimated to save the government £730m in 2009 and 2010, and as much as £2bn over five years. Critics have been quick to describe this as a pension raid - although it shouldn’t be confused with other pension ’raid’ - the abolition of advance coproration tax credits, which affected occupational and personal pensions invested in equities. The second state pension changes will not affect everyone.