Basic principles of the Capital Gains Tax and excemptions

Basic Principles of the Tax

When a property is disposed, it is subject to the application of Capital Gains Tax or CGT. It is the duty of the conveyancing solicitor to explain to his client that selling the property may attract CGT. Similarly, it is  the duty of the buyer’s solicitor to explain to the buyer that future disposal of the property may attract CGT. The basic principles of the CGT along with an explanation of the private dwelling house exemption which in very important in residential conveyancing follows.

Capital Gains Tax or CGT is chargeable on an income that is received from assets that come under the purview of ‘chargeable assets’ such as freehold and leasehold property, and property that is co-owned as joint owned property.  The definition of chargeable assets comes under the purview of the Taxation of Chargeable Gains Act 1992. Besides the above transactions, dealings that are similar to land sale and gifts also come under the purview of CGT.

Such gains are calculated by subtracting the price at which the property is purchased from the price at which the property is currently sold. Certain expenditure incurred on the property can also be deducted when applicable. Gains that are realised on or after the 6^th of April 2008, shall be deducted at the rate of 18% and after accounting the person’s annual exemption. There are separate provisions for gains that are realised before this date.

The Principal Private Dwelling House Exemption

Gains that are received on the sale of a land that is an individual’s only or primary residence shall be exempt from CGT. This is applicable to gifts as well.

Qualifying Conditions

In order to be exempted from CGT, the seller should prove that he has occupied the property as his only source of residence throughout the period of ownership. And if the person has more than one residence, it will have to be determined if the property is his main residence. But the individual can determine which the main residence is within two years of buying/receiving the second property.

Absences

When calculating the relief amount, certain periods of absence are disregarded. They are:

• Ownership of the last 36 months.
• The first 12 months of the period from which it is owned. This is allowed to take into account the delay caused by building and alterations.
• A period not more than three years throughout the period of ownership. Such an absence can be for a reasonable cause such as extended holiday and can be made of numerous separate periods.
• Any phase during which the person was living outside the country. But such an exception is applicable only to employees of a firm and not those who are self-employed.
• Any phase not more than four years in total during which the person was prohibited from living at the main residence because he was working somewhere else. This is mainly applicable to caretakers who may have to live in the place where accommodation is provided or employees recruited in another part of the country.

But if a person has gained £ 140,000 and has stayed for four years outside the country, exemptions under the third clause (given above) shall be applicable. The remaining one year shall be calculated as 1/12 x £ 140,000= 11,666.

Letting the Property

If an individual decides to give the property on rent, this period during which it was given on rent cannot be considered as the main residence of the individual. The gain received during this period shall be chargeable, but only to the extent which is less than £40,000.  Considering the situation mentioned above, if a person has let his house on rent for the period that he was outside the country, the gain of 11,666 shall be exempted because it is less than £ 40,000.

Houses with Large Grounds

When a residence is located in more than 0.5 hectares of ground, the land beyond 0.5 hectares is chargeable. But it is up to the discretion of the HMRC to exempt the rest of the land if it is convinced that the extra land is required for the enjoyment of the house.

Sale of Land Alone

Sometimes it may happen that the land around the house is sold, while the house is retained. In such a situation, exemption can be enjoyed as long as the land is not more than 0.5 hectares. And if the house is sold and the land is retained, a sale of the land in future shall be taxable under CGT.

Part Business User

When a person uses a part of his house for business, he loses a part of the exemption. This is relative to the proportion of land that is used for business when compared to the total area of the house. But if the person can prove that the house serves dual purpose, he can claim exemption. For instance, if a person works from home, but does not have any designated place as office, he can claim exemption.

Married Couples and Civil Partners

Only one person out of couples who are married or are civil partners can claim exemption. And where there is more than one property, they will have to decide on the main residence to claim exemption. But this is revocable and can be changed at any time.

Trustees

Such an exemption can be availed by trustees only when the person occupying the property is one who is entitled to be the occupant under the terms of the settlement. Even a beneficiary can claim exemption as he has the right to occupy the property.

Tenants in Common

They are liable to pay CGT for an amount that is proportionate to their equitable interest in the property.

Four key Questions:

When undertaking a sale of a property, it is easy to determine if the sale is likely to be liable for CGT, by answering the four questions given below:

If the client’s answer’s match the ones given above, application of CGT is unlikely.

Photo courtesy: George Rex

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