The Proposed Changes to CGT and Inheritance Tax for 2021/2022

The following article is a detailed report on the proposed changes to Capital Gains Taxation for 2022 and beyond. If instead you would like to read a brief overview of these potential changes please click here.

The Government’s budgets for 2021 largely avoided tax increases in a bid to restart the country’s economic growth engine (read our budget summary here). However, the effects of Covid-19 on the economy and the Government’s budget balance will remain with us even as the threat of the virus subsides. The challenge ahead for the Government is severe. The Institute of Fiscal Studies (IFS) estimates government debt will stand at 110% of National Income by 2024-25. The IFS predicts the government will need to raise an extra £40 billion per year by the middle of the decade.

One of the areas the government is looking to increase its tax collection from is capital gains. Although it is now clear Capital Gains Tax (CGT) and Inheritance Tax (IHT) rates and allowances have avoided changes in 2021, they are still very possible for the budget in 2022 or in future years. These changes may be significant and have large ramifications for your investments. It may be wise to take some preventative measures which are listed at the bottom of this article.

Any future changes changes are likely to be heavily influenced by the Office of Tax Simplification’s (OTS) review into CGT. The review was requested by Rishi Sunak, the current Chancellor. The outcome of this review was released in November 2020.

The remainder of this article will take you through the recommendations found in the report, as well as some of the steps you could take to mitigate them. It is important to understand that these changes are not guaranteed. However, due to the size and nature of the changes recommended in the OTS report, we believe it is important to be aware of the potential impact they may have on your tax liability in the future.

The proposed changes to CGT

The OTS report of November 2020 contained two major recommendations; to align Capital Gain Tax (CGT) with Income Tax rates and to reduce the CGT allowance. CGT considerations were also made in an OTS report on Inheritance Tax (IHT) in 2019. This article will also cover recommendations from this report.

It is important to remember that CGT is only paid on any gains you make when you sell assets. This is calculated by taking the original purchase price of the assets you are selling from the amount you are selling the assets for. For example, if you sell assets totalling £30,000, but you bought them originally for £15,000, your gain would be the difference, in this case £15,000. The CGT allowance of £12,300 (for the 2020/21 tax year) can be subtracted from this amount and tax would be charged on the remainder.

CGT rates

The OTS recommended that CGT rates are brought in line with Income Tax. This could result in a significant increase in CGT rates if this recommendation is implemented. The changes in tax rates could be as follows:

Proposed changes to Capital Gains TaxCurrent CGT rateProposed CGT rate
Basic rate taxpayers10% on assets, 18% on property20% on assets and property
Higher rate taxpayers20% on assets, 28% on property40% on assets and property
Additional rate taxpayers20% on assets, 28% on property45% on assets and property

CGT allowance

The OTS report also recognised that many people are avoiding any tax liability by using up their CGT allowance every year. The report recommended significantly reducing the CGT allowance to make sure more gains are captured by CGT. This means the value of assets one can cash in without paying tax could be much smaller. The OTS recommended the new CGT personal allowance be reduced from £12,300 to between £2,000 and £4,000.

Despite these recommendations, the Government confirmed in the March 2021 Budget that the personal allowance for CGT will be frozen until 2026.

Scenario A – CGT payable on the sale of £200,000 of assets on which capital gain is £100,000:

 Current rulesProposed new rulesPotential Increase in Tax
Asset value£200,000£200,000-
Capital Gain£100,000£100,000-
CGT allowance£12,300£12,300-
Amount on which CGT Charged£87,700£87,700-
CGT payable by basic rate taxpayers£15,786 for property
£8,770 for other assets
£17,540£1,754 for property
£8,770 for other assets
CGT payable by higher rate taxpayers£24,556 for property
£17,540 for other assets
£35,080£10,524 for property
£17,540 for other assets
CGT payable by additional rate taxpayers£24,556 for property
£17,540 for other assets
£39,465£14,909 for property
£21,925 for other assets

The ‘no gains, no loss’ approach to Capital Gains and Inheritance Tax

In their 2019 inheritance tax report, the OTS made the case for a ‘no gains, no loss’ approach to CGT in the case of businesses and farms, which are currently exempt from IHT. Under the current rules, inheriting a business or farm is not only exempt from IHT, but effectively exempt from CGT as well. This is because of the ‘CGT uplift’. The CGT uplift is where all assets are re-based when they are received by inheritance. The uplift currently means that the gains made on the value of any assets are ‘wiped out’ once they are passed over as an inheritance.

The OTS judged that where a relief or exemption from inheritance tax applies, the government should consider removing the CGT uplift on the death of the original holder. This means the CGT payable by the recipient of the assets could be payable at the historic base cost paid by the original holder.

For instance, if person A sold assets totalling £300,000 which they purchased at £200,000, CGT would be payable on the difference between the price of purchase and the price of sale. In this case £100,000 (minus their CGT allowance, currently £12,300).

However, if person A were to die and leave their £300,000 of assets to person B, a CGT uplift would set the cost to the value of the assets on the date of death of person A. This would mean person B would inherit the full £300,000 and would not have to pay any CGT in the event of their sale at this price. If the recipient does not sell the assets and they were to appreciate in value, the gains upon the event of their sale would be anything over the price on the day of the original asset holder’s death, e.g. if the assets were sold at £350,000 the taxable gain after deducting the full annual allowance of £12,300 would be £37,700.

Removing the CGT uplift would mean that the taxable gains of the assets are not uplifted to reflect their value on the date of person A’s death. In the above example, person B would inherit the cost to person A (£200,000) and realise a gain on their immediate sale just as person A would have done (£100,000 – with their own CGT allowance potentially being available).

Scenario B – The immediate sale of Inherited Assets totalling less than the Inheritance Tax allowance

The following table shows the CGT liability on the sale of £300,000 of inherited assets for which the original purchaser paid £200,000:

 Current rulesProposed new rules
Inherited asset value£300,000£300,000
Cost to original purchaser£200,000£200,000
Capital gains £0£100,000
CGT allowance£12,300£12,300
Amount on which CGT Charged£0£87,700
CGT payable by basic rate taxpayers£0£17,540
CGT payable by higher rate taxpayers £0£35,080
CGT payable by additional rate taxpayers£0£39,465

Extending the ‘no gains, no loss’ approach

In their November 2020 report the OTS took the no gains, no loss approach one step further, suggesting that the government remove the CGT uplift for all inherited assets, not just those which are exempt from IHT. This means that both IHT (up to 40%) and CGT (up to 45%) could be applied to the same assets. IHT is a complex area and a full discussion is beyond the scope of this article.  Please contact your adviser if you wish to discuss this further.

Scenario C.1 – Inheriting and immediate sale of assets totalling over the Inheritance Tax Allowance

The following tables show the total tax liability of inheriting £1m of assets for which the original purchaser paid £500,000, and selling those assets, including to cover inheritance tax.

 Current rulesProposed new rules
Inherited asset value£1,000,000£1,000,000
Inheritance tax allowance£325,000£325,000
Inheritance tax payable (assets to be sold)£270,000£270,000
Capital gain£0£500,000
Assets needed to be sold to pay inheritance tax for basic rate taxpayer£270,000£298,633
Assets needed to be sold to pay inheritance tax for higher rate taxpayer£270,000£334,425
Assets needed to be sold to pay inheritance tax for additional rate taxpayer£270,000£344,815
Remaining assets for basic rate taxpayer £730,000£701,367
Remaining assets for higher rate taxpayer£730,000£665,575
Remaining assets for additional rate taxpayer£730,000£655,185

Scenario C.2 – If the asset recipient sold the remaining assets in the same tax year

 Current rules for all taxpayersProposed new rules- Basic rate taxpayersProposed new rules- Higher rate taxpayersProposed new rules- Additional rate taxpayers
Remaining assets £730,000£701,367£665,575£655,185
Remaining Capital
Gains allowance
Amount on which
CGT Charged
CGT payable£0£70,137£133,114£147,417
Remaining assets
after sale

Steps to mitigate the potential changes to CGT

We are not suggesting any action must be taken on the basis of these proposed changes, which are not guaranteed. However, it currently seems more likely that CGT rates will be higher in the future and/or exemptions could be reduced.  Therefore, those with larger capital gains in their portfolios, or those intending to pass on significant capital gains in the form of inheritance, could see these changes have a material effect.

As such, it may be a good time to review one’s current position and plan ahead of these proposed changes, especially for higher and additional rate taxpayers. For instance, it may be worth considering moving forward any planned sale of assets to this tax year, or increasing the amount that is sold.

Think about the CGT allowance

Staggering the disposal of one’s assets to capitalise on your current CGT allowance of £12,300 will be far less fruitful, as the new allowance could be as low as £2,000. This could be the last opportunity to capitalise on the current personal allowance of £12,300 before it is reduced.

Selling a property or business

If capital gains tax rates are aligned with income tax, the tax liability of selling a business or property that is not one’s primary address will get considerably higher. You should speak to your adviser if you plan to make a large asset disposal on which there will be capital gains to pay, as it may be appropriate to bring the sale forward.

Spousal Transfers

Sharing one’s assets with a spouse or civil partner before sale to take advantage of each person’s personal allowance which could become less effective if the allowance drops significantly. However, transferring assets in this way may still be very worthwhile if the recipient pays a lower rate of income tax, as this could mean the rate of CGT they pay upon their disposal may be lower.

Donate to charity

If CGT is aligned with income tax, the incentive to utilise assets for charitable donations is markedly larger. Not only does one not pay CGT when donating land, property or shares to charity, the value of the donation can be offset against one’s total taxable income. This could reduce an income tax bill.

Make the most of your pension and ISA

Assets held in a pension or ISA are free of CGT and therefore it pays to have as much as possible saved in the tax efficient investments as possible. Making pension contributions will also expand one’s basic rate band. If the expanded basic rate band means you drop down a tax band, it will be possible to take some gains and only pay a lower rate of CGT.

Transfer assets earlier

A potential removal of the CGT uplift could mean recipients of assets via inheritance might have to pay both CGT and IHT. Transferring assets before death may allow the recipient to avoid inheritance tax. This is a complex area and you should take further advice if this is of concern to you.

Brought Forward Losses

Those with significant losses carried forward could consider using them now in case the ability to do this is removed. However, the ability to carry forward losses could become even more valuable if the proposed changes are made.

Consider Investment Bonds

Life assurance investment bonds offer tax advantages that could be much more valuable if the proposed changes are implemented. Investment Bonds are not subject to CGT and the ongoing taxation can be deferred to a future date or mitigated by assigning segments to lower or non-taxpayers.

In Conclusion

It is not yet known whether some or all of these recommended changes are going to be implemented in 2021 or 2022. It is clear however that once the effect of the pandemic fades further, the government is going to be looking for new ways to increase its revenues. Tax increases are never popular with the voters they affect, which is why CGT may be a prime target for increases. The burden of CGT does not fall on the majority of UK citizens, with only around 276,000 people paying last year.

These changes are not guaranteed to take effect and this article is not recommending any particular course of action. In most cases, even if all the proposed changes do go ahead, adjustments won’t necessarily have to be made before the next tax year.

If you were planning to sell a property, business or other assets on which there are significant gains within the next few years, it may be worth reviewing your plans within the context of these potential changes. Please get in touch with your adviser if you would like to discuss this further.

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