Capital Gains Tax Avoidance Techniques Revealed

Reducing or avoiding capital gains tax is a key concern for many site members. We've therefore put together this summary of some of the main ways of avoiding or reducing it. This should give you some food for thought and allow you to make sure you've not overlooked any opportunities to drastically reduce your capital gains tax bill.

Principal private residence relief

For anyone looking to sell investment property occupying it as a main residence is the most common way of avoiding or reducing the capital gains tax charge. The relief is a proportionate relief based on the period of occupation divided by the total period of ownership. However, if you make it your residence you'll automatically be deemed to have lived there for the last 36 months, which can increase the amount of PPR relief significantly, particularly where you've not owned a property for too long.

It's also worth noting that if you're purely interested in avoiding capital gains tax, given you're deemed to live there for the last 36 months occupying it for more than you have to will not increase the amount of relief. So if you can make the property your main residence after 12 months occupation, you're better off selling it quickly rather than carrying on occupying it. This example will show you why:

Example

Jack bough property A in June 2002. He wants to sell it. He therefore occupies it from June 2007 until June 2008, and sells it. He'll obtain PPR relief of:

Period of ownership = June 02 -- June 08 = 6 years
Period of occupation = last 36 months deemed occupation (3 years)
PPR relief = 3/6 = 50%

If he held onto the property and sold it in June 2010 he'd obtain PPR relief of:

Period of ownership = June 02 -- June 10 = 8 years
Period of occupation = last 36 months deemed occupation (3 years)
PPR relief =3/8= 37.5%

This relief is given as an exemption from the capital gain before taper relief and the annual exemption.

Clearly if you buy and sell a main residence within 3 years the gain will always be fully exempt, irrespective of whether you've actually occupied it as a main residence for those three years.

Let property

If the property is let, making the property your main residence prior to a disposal can be even more advantageous. As well as getting PPR relief, you'll also be able to claim lettings relief. This provides for another exemption of the capital gain for the amount that is 'attributable to the letting' provided it's not more than the PPR relief or £40,000.

This therefore provides for a maximum relief of up to £40,000 for a let property on top of the PPR relief. The beauty of this is that it is per person. So if you own the property jointly with your spouse, you'll each have the £40,000 maximum.

The combination of PPR relief and lettings relief can often substantially reduce the capital gain.

Non residence

Becoming non UK resident and non UK ordinarily resident allows you to avoid UK capital gains tax on most assets. It's generally just UK business assets that remain within the charge to UK capital gains tax.

When you're considering this, as well as considering the overseas tax position, you should ensure that you usually delay a disposal until the tax year after you leave the UK and that you observe the five year non residence requirement. If you need to arrange a disposal before you leave, using cross options or conditional contracts are standard ways of delaying a disposal until after you leave the UK. We've lots of articles on this on the site.

Transfer to a company

If you own an asset personally that is already showing a substantial gain, simply transferring it to a company won't have any capital gains tax advantages. The transfer would be a disposal for CGT purposes, and the gain would be charged to tax on you.

However if you own a UK business that you are planning on selling, a transfer to a company may be beneficial. You can obtain specific reliefs to defer any capital gains tax charge on the transfer,and after the transfer you'd be treated as owning shares in the company rather than the underlying business assets. This can then enable you to avoid capital gains tax if you go abroad and sell the shares.

If, by contrast, you had retained personal ownership of the business assets, you'd still have been subject to capital gains tax, even if you were non UK resident.

Using an Offshore Company

An offshore company that is non UK resident is not charged to UK tax on capital gains (aside from on UK business assets). Although it's mainly non UK domiciliaries that can achieve benefits of offshore companies there are limited cases where you could benefit (eg if you owned less than 10% of the shares in the offshore company), and obtain capital gains tax benefits.

Furnished holiday lettings

If you can satisfy the criteria for furnished holiday lettings there are some pretty substantial tax advantages. In particular you'll be able to qualify for business asset taper relief on the disposal to eliminate up to 75% of the gain. You can read more on the benefits of this in this article:Tax benefits of furnished holiday lettings

There are a number of conditions that need to be satisfied to qualify:

• The property must be commercially let as holiday accommodation in the UK. Therefore the big exclusion here is that overseas properties can't qualify under the Furnished Holiday Letting rules. Letting as holiday accommodation simply means that it's not let as long term accommodation although these would not pass the qualifying tests in any case.
• The accommodation needs to be furnished. This speaks for itself and the Revenue will expect to see furnishings as would generally be provided in such accommodation (eg Beds, Cooker, Fridge etc).
• It needs to be available for holiday letting to the public on a commercial basis for 140 days or more. This means that if you or your family were to occupy the property you'd need to exclude this from the period 'available for letting' to see if it satisfied the 140 day requirement.
• It needs to be let commercially let to the public for at least 70 days or more. It's also worth noting that for this condition only if you own more than one furnished holiday let you can adopt an averaging basis. This means that if some are individually let for less than 70 days, you can apply this condition to the average rate of occupancy of the properties.
• The property must be let for periods of longer-term occupation (more than 31 consecutive days) for not more than 155 days during the year.

Use of leases

Granting a short lease ensures that part of the premium received is taxed as income, as opposed to capital gain. So if you have rental losses brought forward, or other current year trading or rental losses you could arrange with the purchaser for the grant of a short lease prior to the disposal, with the income element of the premium being offset by the losses. This would then reduce the capital gain on the transfer of the freehold.

Nature of consideration

When you sell an asset, the consideration that you receive is simply the disposal proceeds. Usually the method of your consideration is pretty much irrelevant. Whether you receive cash now, in the future, or other assets in exchange for yours, the gain is calculated and charged immediately. However if you're selling shares, there are special provisions that can apply to enable you to delay the CGT and ultimately reduce capital gains tax.

Rather than selling shares for cash, if there is a company takeover or business disposal you may have the opportunity to receive other shares or loan notes in exchange for your shares. The tax benefit of this is that it's possible to defer any immediate capital gain. Loan notes in particular are very advantageous, and there are two distinct forms (QCB's and non QCB's). Non QCB loan notes allow you to be treated for tax purposes as continuing to hold the shares. This means that if you've not owned the shares for a long time, you can defer gains into non QCB's and increase your period of ownership for taper relief purposes. This can help to maximise business and non business asset taper relief. It can also allow you to redeem the loan notes over the course of a number of tax years to utilise a number of annual CGT exemptions.

Using the annual exemptions

Everyone is entitled to offset the annual exemption of £9,200 (for 07/08). If you own the property jointly with your spouse this increases the total exemption to £18,400.

There is nothing to prevent you disposing of an asset over the course of number of tax years to utilise a number of annual exemptions. If for example you sold an asset over the course of 5 tax years you'd have a total joint exemption of around £92,000.

One option to achieve this would be to find a suitable buyer who'd be willing to purchase over such a period. Alternatively you may want to transfer an asset to a family member (eg Children perhaps to reduce Inheritance tax). As this would be a market value transfer (ie with proceeds deemed to be market value) you could arrange to transfer an interest in the property to them each year so that the gain arising did not exceed the annual exemption. If for example you and your spouse owned a property valued at £200,000 which had a capital gain of £80,000, you could arrange to transfer 20% each over five years. The gain arising (16,000) would be offset by the joint annual CGT exemptions.

Transfer to a spouse

At it's most simplest a transfer to a spouse allows their annual CGT exemption to be offset. This in itself is worth £3,680 for a higher rate taxpayer. The other advantage is that if they're a basic rate taxpayer their 20% tax band can be used on the gain.

Remember that any transfers between spouses are free of capital gains tax.

If your spouse is a non UK domiciliary, transferring overseas assets to them therefore makes good sense as they could then sell them, retain the proceeds outside the UK avoid paying UK capital gains tax.

If your spouse is planning to be non resident, again a transfer of (non UK business) assets to them prior to a disposal would be sound tax planning as it could enable them to avoid capital gains tax when they later sold them.

Use of a trust

Provided the trust is not 'settlor interested' you can defer gains on the transfer to a trust. This means that if you hold an asset such as an investment property or shares that are showing a significant gain, you could transfer these to a discretionary trust and defer the capital gain. In order not to be 'settlor interested' though you, your spouse and minor children would need to be excluded from benefit. The trust could also claim the deferral relief on the transfer of assets from the trust to beneficiaries (eg adult children).

EIS and non residency

You can defer any gain by claiming EIS relief. However when you later sell the shares the gain that was deferred will then be charged to capital gains tax. This also applies if you become non UK resident within a period of six years. Providing though you became non UK resident after a period of six years and then sold the shares you should be able to completely avoid capital gains tax on the deferred gain, as well as the EIS shares themselves.

Trading assets

If you can ensure that your activity is classed as a trade, rather than an investment, this opens up the possibility of claiming business asset taper relief on trading assets. The main case where this will apply would be to argue that your letting activity constituted a trade. You could then claim the higher rate of taper relief on the disposal. Have a look at this article:Overseas let property as a trade

About the Author

He worked in Ernst & Youngs Entrepreneurial Services department for a number of years before setting up his own tax planning practice. He is now a full time tax author.

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