The jargon and technicalities surrounding capital gains tax (CGT) can make it seem like a complex beast. However, once broken down, it’s relatively straightforward. The Daily Mail had a useful overview of what CGT is, how it affects you, and the recent changes.
What is Capital Gains Tax (CGT)?
CGT is a tax applied on the profit you make when you sell an asset. The assets in question could range from shares, buy-to-let properties, second homes, or even some personal possessions. The idea behind this tax is quite simple: you bought something at a particular price and sold it at another (hopefully higher) price. The difference between these two prices – minus some allowable costs – is your “gain”. The tax is applied on this gain, not the total amount you received from the sale.
Why is CGT Rate Lower Than Income Tax?
Unlike your regular salary or savings interest, which is pretty much guaranteed, the assets subjected to CGT are usually riskier investments. People invest in them with the hope of returns, but there’s no guarantee. That’s why CGT rates are traditionally lower than those of income tax.
Exemptions and Allowances
Your main residence, also known as your Principal Private Residence, is free from CGT. Additionally, everyone has an annual tax-free allowance. As of now, it’s £6,000, but watch out! This allowance is set to decrease to £3,000 come April 2024.
Previously, the allowance was at a comfortable £12,300. But government cuts mean more people are going to feel the pinch of CGT in the future.
How is the Tax Calculated?
Here’s a simple example: If you bought an asset for £10,000 and later sold it for £20,000, your gain is £10,000. Now, let’s say you spent £1,000 on improvements and had to pay £500 in selling costs. You can deduct these costs, making your taxable gain £8,500. If you haven’t used your annual tax-free allowance on any other gains, you can subtract that too, further reducing your taxable gain.
CGT Rates: What Will I Pay?
The amount of CGT you pay depends on two things: the type of asset and your taxable income.
- For higher or additional rate taxpayers (40% or 45%): CGT is 28% on gains from residential property and 20% on other assets.
- For basic rate taxpayers (20%): If your total taxable income and gain fall within £12,571 to £50,270, CGT is 18% on property and 10% on other gains. If you exceed this income bracket, you’ll pay the higher rates.
Special Mention: Buy-to-Let Landlords
If you’re a landlord, listen up! When you sell a buy-to-let property or a second home, CGT comes into play. Most landlords with decent profits will likely pay the 28% rate.
Some Relief for Landlords
There are certain reliefs available:
- Final Period Exemption: If you once lived in the property you’re now renting out, you’re only taxed on the value increase during the period you weren’t living there. Plus, you can add an extra nine months to the time you lived there, reducing your taxable gain.
- Lettings Relief: If you lived in the property with your tenants at some point, up to £40,000 of your gain could be exempt from CGT.
Remember, some expenses related to buying and managing the property can also reduce your CGT bill. Additionally, if you’ve incurred losses on other properties, you might be able to offset them against your CGT.
Final Thoughts
Understanding CGT is crucial, especially with the changing allowances. Whether you’re thinking of selling an asset or planning future investments, being aware of your potential tax liabilities can guide your decisions and potentially save you money.