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Capital Gains Tax and Inheritance Tax

This page reflects the rules for the 2007-2008 tax year. Click here for the current rules applying from 6 April 2008.

Capital gains tax

When you sell or give away an asset for more than you paid (or it's worth more than when you were given it) you have made a capital gain. Most capital gains are liable to capital gains tax but because of the various exemptions many gains can escape the tax altogether or are taxed at a low rate.

You dispose of an asset when you sell it or give it away. When you buy an asset or are given one, you acquire it. When you give an asset to your legally wed husband or wife, that doesn't count as a disposal. When your sposue disposes of it, it is the value when you first acquired the asset which counts, not the value at the time you gave it to him or her.

For assets acquired on or before 31 March 1982 it is the value at that date which counts as the original cost. If you acquired an asset later, it is the actual cost. These amounts can be raised by the indexation allowance from the month of purchase until April 1998.

If you incur any expenses while buying or selling an asset (e.g. stockbroker's or agent's commission, stamp duty, legal fees) you are allowed to add these to your original cost. If you make a loss when you sell or give away an asset, this loss can be set against any gains you have made on other assets before the tax is levied. If your losses come to more than your gains you can carry forward the losses indefinitely to be set against gains you make in the future.

The first £9,200 of capital gains you make in the 2007-2008 tax year. (£8,800 in 2006-2007;£8,500 in 2005-2006; £8,200 in 2004-2005; £7,900 in 2003-2004; £7,700 2002-2003; £7,500 2001-2002; £7,200 2000-2001; £7,100 1999-2000; £6,800 1998-99; £6,500 1997-98) is tax free.

The balance is added to your income and taxed at 10%, 20% or 40% since the 2000-2001 tax year (1999-2000 20% or 40%; 1998-99: 20%, 22% or 40%) depending on your total income and gains in the tax year. All gains since 6 April 1998 are reduced by the tapering allowance, see below.

Every individual, including husband and wife, have their own limit. So if an asset is owned jointly, husband and wife can each use their own exemption limit. Alternatively an asset standing at a gain can be gifted to the spouse (without counting as a disposal) and then sold to benefit from the other spouse's exemption limit; this gifting concession only applies to legally married couples. Each child, from when they are born, has a separate £9,200 exemption limit.

Most trusts have a separate limit of £4,600 in 2007-2008 (£4,400 in 2006-2007; £4,250 in 2005-2006; £4,100 in 2004-2005; £3,950 in 2003-2004 ; £3,850 in 2002-2003 ;£3,750 in 2001-2002 ; £3,600 in 2000-2001 ; £3,550 in 1999-2000; £3,400 in 1998-99; £3,250 in 1997-98; £3,150 in 1996-97). Most trusts currently pay capital gains tax at 34% but for disposals on or after 6 April 2005, the rate will be raised to 40%.

Exempt Certain assets are exempt from capital gains tax. These are:

• Your main home (if you own more than one, you can choose which one is your main home within two years of buying the second; you can also change your mind, and back date the new choice by up to two years). You can sell up to 2 years after you have stopped living there without affecting the exemption.
• Private cars;
• ISA (Individual Savings Account).
• PEP (Personal Equity Plan).
• National Savings Certificates.
• SAYE.
• Betting and lottery winnings and Premium Bonds; life insurance policies if you are the original owner
• British Government Stock is exempt and so are other fixed interest stocks (excluding convertible stocks) bought after 13 March 1984.
• Shares in Business Expansion Scheme Companies and Enterprise Investment Fund Schemes sold for the first time, having been held 5 years, and bought after 18 March 1986.
• Foreign currency spent (e.g. on holidays and holiday homes abroad) is exempt although currency bought and sold for gain is not. Things like boats and caravans which are not expected to last for more than 50 years are also exempt.
• Tangible moveable assets (i.e. personal belongings furniture, jewellery) worth less than £6,000 at the time of disposal (a set of objects, e.g. a pair of earrings, usually counts as one object) are also exempt. If the proceeds are more than £6,000 from each object, the taxable gain is 5/3 rds of the excess over £6,000 if this is less than the actual gain.

There is no capital gains tax payable on your estate on death but see Inheritance tax below.

Indexation From assets held between March 1982 to April 1998, capital gains tax takes account of inflation up to April 1998 . Instead of deducting the original cost from the sale price, to work out the gain you take that original cost (plus any allowable expenses on purchase) and normally uplift it by an indexation allowance based on the change in the Retail Prices Index from the date of purchase to April 1998 (or the date of disposal if before 6 April 1998). This will reduce your gain and possibly eliminate it altogether. For more on indeexation allowance, see the Revenue and Customs web site by clicking here.

For assets acquired before 31 March 1982, the indexation allowance is worked out as if the asset was acquired in March 1982. So the acquisition value is based on the value at 31 March 1982, not what you actually paid. The index of retail prices stood at 79.4 on 31 March 1982 and at 162.6 at 1 April 1998. The Retail Prices Index rose by 104.8% from 31 March 1982 to 1 April 1998. So if you held an assets for the whole period, when you dispose of it now, the purchase price can be slightly more than doubled.

For assets acquired from 1 April 1982 to 31 March 1998, the indexation allowance is worked out according to the month in which you acquired the asset and the month in which you disposed of it or April 1998 if you dispose of it after 31 March 1998. You cannot create a tax loss or increase a tax loss by using the indexation allowance.

Unit Trust Savings Plan or Investment Trust Savings Plan Where you invested monthly, you don't have to use monthly indexation figures. You can normally use the indexation allowance for July each year instead. This will continue to apply on disposals on the part of the fund acquired before 6 April 1999 where the savings scheme started before 6 April 1998.

For assets acquired since 1 April 1998 There is no indexation allowance.

Tapering allowance

There is no further indexation allowance after 1 April 1998. So any inflation since April 1998 will not raise the indexation allowance further. However there is a tapering allowance instead.

The taper reduces the amount of the chargeable gain according to how long the asset has been held for periods after 5 April 1998. For non-business assets, you get no benefit from the taper until after you have held the assets for three full years. Assets acquired before 17 March 1998 qualify for one extra year's taper relief (i.e. these assets will count as year 3 for the taper relief from 6 April 2000), rather than 6 April 2001.

The taper is much more generous for business assets (which are now very widely defined, see definition below). The taper follows the following forms for non-business assets:

Business assets. There are no longer specific exemptions when you retire from a business.

Instead there is an accelerated tapering period for business assets disposed on or after 6 April 2002 which is given in the table below.

• All shareholdings in unquoted and AIM companies.
• All shareholdings in quoted companies held by employees including part timers (including shares in any group company etc).
• Shareholdings of more than 5% in quoted companies held by outside investors.

For disposals made on or after 6 April 2004 this relief has also been available to:

• Any individual or trustee on the disposal of commercial and industrial property let to businesses carrying on trading activities.
• In this case the number of complete years you have held the asset is counted from 17 April 2004, not since 6 April 1998 or 2002 which is the case for the other categories.
• Assets only qualify as a business asset for the part of the period of ownership after 5 April 2004. So for properties owned before 5 April 2004, only a proportion of the gain will be eligible for business asset taper relief.
• If the asset is only partly let to qualifying businesses, then only a proportion of the gain will be eligible for business asset taper relief.

The business taper reliefs are complex and unlikely to give much relief to existing owners of commercial property purchased before 17 April 2005 as in that case it will be 10 years, rather than two, before the full business taper relief comes into effect. You can see an example of how the gain might be worked out from HM Revenue & Customs Help Sheet IR 279 (there should be an updated one available for the year ended 5 April 2007 but the rules have not changed since the 2006 version).

However the concessions will have the effect of attracting new investors which could push up property prices. This would be in addition to the effect of lower interest rates which have already had this affect. For detailed advice on capital gains tax and property, see How to Avoid Property Tax by Carl Bayley.

Gifts and gains tax If you make a gift of an asset you may be liable to pay capital gains tax if the gain is large. So give away cash or assets which are exempt, see list above. Gifts to a trust incur gains tax in the same way as gifts to an individual. Gifts between husband and wife and vice-versa are ignored. When it comes to working out the gain, the date the original owner acquired the asset counts, ignoring any transfers between husband and wife.

Time to pay Where you make a gift of land (e.g. a house) or controlling shareholding of a company or a minority holding in an unquoted company, capital gains tax can be paid over ten years, but interest must be paid unless it's agricultural property.

Loopholes no longer Since 17 March 1998 it has not been possible to use bed and breakfasting to create a disposal in a tax year. Any assets repurchased within 30 days are treated as not having been sold (see below under buying and selling shares).

There may still be scope for a husband and wife to operate something like bed and breakfasting if they sell different shares or units and then buy back what their spouse has just sold. Indeed the deals can be done on the same day. It is important, however, that they buy and sell from a third party.

Another way would be to dispose of shares in one index-tracker fund and acquire new shares in a similar fund (using funds with no initial charge) promoted by another unit trust company. These types of transactions will incur costs such as stockbroker's commission and/or differences between buying and selling prices.

If you have holdings in PEPs and ISA's, especially self-select ones where you can trade over the internet, you could dispose of a holding in your own name and buy it back on the same day as part of your ISA or PEP.

Buying and selling shares If you are trading in shares, perhaps through an on-line stockbroker, you may have many transactions.

If you have a holding of shares which you add to and then partially dispose of, assuming all the shares were acquired after 1 April 1998, then the Last in First Out principal now applies in deciding which shares are the ones you bought. If you bought some before 1 April 1998, the rules are more complex and you you seek advice or look at the free booklet, see below.

If you buy shares, then sell them, and then buy again within 30 days, you will be deemed by the taxman not to have sold the assets. In that case transactions are matched differently. Suppose you buy shares for £5 and sell for £15 a few months later. Then the shares rise to £24 and you buy back again within 30 days. Then you later sell at £40. Your tax bill will be based on £5 minus £40 giving a gain of £35. However you will also have a loss based on the matching of the two other transactions, your sale at £15 and your purchase of £24 which gives a loss of £9 (despite the fact that you made the sale before you made the purchase). Setting the £9 loss against the £35 gain gives a net gain of £26.

HM Revenue & Customs describes the share identification rules rules on this web page. Sorry if they are as clear as mud but that's HM Revenue & Customs for you.

Non-residents are not usually liable to UK capital gains tax. However if you go abroad, having previously been a long term UK resident, you must now remain non-resident for five complete tax years to avoid UK capital gains tax on a UK disposal of an asset which you acquired before you left, while you are non-resident. Disposals of assets bought after you left the UK are unaffected. Previously in practice you had to be away for only one complete tax year during which the disposal was made to avoid capital gains tax.

Inheritance tax

Inheritance tax is a tax on what you leave in your will (and on gifts you make in your lifetime to some trusts and companies). It only affects people who are likely to leave more than £300,000 in 2007-2008; £312,000 in 2008-2009 and £325,000 in £2009-2010.

Rates in previous years are: £285,000 in 2006-2007; £275,000 in 2005-2006; £263,000 in 2004-2005; £255,000 in 2003-2004; £250,000 in 2002-2003; £242,000 in 2001-2002; £234,000 in 2000-2001; £231,000 in 1999-2000.

Where the estate, plus non exempt gifts which were made within seven years before death, comes to more than £300,000, then the tax starts to bite at a rate of 40% of the excess. So if your estate is worth £350,000 (after deducting debts like mortgages, bank loans and outstanding bills) then deduct £300,000 which leaves £50,000 and the tax is 40% which is £20,000. If you have £3 million then there will be £1,080,000 tax to pay!

Non exempt gifts made within 3 years of death are added to the estate. For gifts made between 3 and 7 years of death only part of the gift is added to the estate:

• 80% is added for gifts made more than 3 but less than 4 years before death
• 60% is added for gifts made more than 4 but less than 5 years
• 40% is added for gifts made more than 5 but less than 6 years
• 20% is added for gifts made more than 6 but less than 7 years
• Seven years after the gift is made, it is no longer taxable.

Exempt gifts which are not added to the estate even if the giver dies within seven years of making them are:

• Any amount to your husband or wife (even if you are not living with them or are separated but not divorced) which is also tax free on death. This assumes your husband are UK domiciled.
• In addition £3,000 in any tax year. If you don't use all the allowance in one tax year, you can use the balance in the next one, after you have used up that year's allowance. Husband and wife each have a £3,000 a year allowance. So between the two they can give £6,000 a year - or £12,000 if neither has used the allowance from the previous tax year.
• In addition, wedding gifts: £5,000 by each parent (including step-parents). £2,500 by each grandparent or great-grandparent and also the bride and groom to each other; and £1,000 by anyone else.
• In addition, money spent on your own child's education or maintenance if he or she is under 18 or still in full time education; or reasonable provision for the care or maintenance of a dependent relative.
• In addition, normal expenditure gifts which you give out of your after tax income and which don't affect your standard of living, ie you don't have to draw on capital to make them.
• You can also give up to £250 each tax year to any number of different people provided they have not received any other gifts from you (say under the above exemptions) in the same tax year.
• Any amount to a registered charity.
• Decorations for valour or gallant conduct which have never previously been sold. If you have paid tax recently on such a decoration, you may be able to get a refund.

More information about gifts and details of the use of trusts is contained in Giving Money to Adult Children and Children's Investments.

Other exemptionsare assets of unincorporated businesses, owner-occupied farms and farm tenancies, and any holdings of shares of unquoted, USM or Alternative Investment Market (AIM) companies.

There are 50% exemptions for controlling holdings in quoted companies and certain other assets including the interest of a landlord in let farmland and land, buildings or machinery used inthe business of a controlling shareholder or partner.

You can also avoid tax on works of art thought to be part of the National Heritage provided these are listed on The Register of Conditionally Exempt Works of Art which is no longer available on the Internet. The works of art in many cases were only available for view by the public by appointment, however existing owners now have to make the articles more accessible to the public. For claims for new exemptions since 31 July 1998, the owner cannot require an advance appointment for viewing. The criteria for inclusion is now more restrictive as articles have to be "pre-eminent for their national, scientific or artistic interest" unless they are associated with a qualifying building.

There may be some other conditions attached to these exemptions. If it is important to you, check with a knowledgeable chartered accountant or specialist tax lawyer.

Excepted estates An excepted estate is where the gross value of the estate for IHT purposes, plus the chargeable value of any transfers made in the 7 years prior to death, does not exceed the IHT threshold (i.e. £300,000 in 2007-2008), although this will be subject to some limitation for applications made after 5 April and before 6 August in any year. More details at Excepted Estates.

Last updated 2 October 2008.

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