Making the Most of Your Annual CGT Exemption
Regular Annual Disposals -- How Do You Do It?
Because the annual capital gains tax exemption is worth up to £2,968 in saved tax each year (£5,936 for couples), it makes sense to sell shares that are showing a profit so that the exemption is not wasted.
The problem is you may still want to hold on to the shares because you expect them to rise in value.
It's no longer possible to sell your shares and buy them back immediately (so-called bed and breakfasting). You have to wait 30 days to avoid the anti-avoidance rules (see Chapter 4 on share matching). By then, of course, it may be too late and the shares may have risen in value.
However, there are still ways of getting around the share matching rules:
Bed & Spousing
If you're married one solution is to get your spouse to buy back the shares -- also known as 'bed and spousing'.
Example
Bob sells shares with profits of £10,600 in the 2012/2013 tax year and transfers the funds to his wife, Betty, who buys the same shares immediately. Bob's profits are completely tax free and Betty now owns the same shares and can benefit from any price increase.
Note that with any transaction between husband and wife care must be taken to ensure that absolute ownership does pass to the wife and it is not a 'sham arrangement'. Note this strategy will not work if the shares are owned jointly. For example, Bob and Betty may have bought the shares in joint names so that when the time came to sell they could make use of two CGT exemptions, instead of just Bob's.
Bed & ISA
An alternative method of avoiding the share matching rules is to repurchase shares through an ISA. The ISA is regarded as the new legal owner in the eyes of the taxman and therefore you can avoid the 30-day matching rule.
Example
Pat has 10,000 shares in Bucks plc. They were originally acquired for £4,000, and have now increased in value to £7,000. He still has his annual CGT exemption for the tax year available on April 3rd. He decides to give himself a tax-free uplift in the base cost of his shares by disposing of his entire holding. The gain of £3,000 is covered by his annual exemption and he can then buy the shares again through an ISA.
If he did not use the ISA, he would have had to wait 30 days before repurchasing the shares in order to avoid the matching rules. During this period the shares might have increased in value and Pat would have lost out.
Bed & Options or Bed & Spread Bet
There's nothing stopping you from selling your shares to take advantage of your CGT exemption and covering your position for 30 days using either options or other derivatives or a spread betting contract. Naturally you have to know what you're doing but this tactic would completely avoid the share matching rules.
Profits from spread betting are completely tax free, profits from derivatives trades are generally subject to CGT so you would have to do your number crunching and see if the exercise is worthwhile.
Similar Shares or Funds
Let's say you've already used up your ISA allowance, your investments are owned jointly with your spouse and you don't fancy using derivatives or other complicated financial assets. However, you do have some handsome profits and would like to use up your annual CGT exemption.
One option is to simply purchase similar shares or invest in a similar fund. This is, of course, the second-best option but may well be worth considering.
Example
Kathy and Dave jointly own shares in Copper Top plc worth £20,000. The shares were originally purchased two years ago for £10,000. They sell now and potentially save £2,800 in future capital gains tax (£10,000 profit x 28% tax = £2,800). They decide to invest in Copper Bottom plc for 30 days so they can maintain exposure to the copper market even though this company is not as attractive.
During the 30-day period Copper Top rises 10% and Copper Bottom rises just 5%. In other words, they have lost out on a 5% rise, worth £1,000 (£20,000 Copper Top holding x 5% = £1,000). However, they've saved £2,800 tax so they're still better off.
Whether this strategy is worth following depends critically on whether your profits are large when expressed as a percentage of your total holding. If so, it may well be worth selling now.
It also depends critically on how important to you losing the annual CGT exemption is. You have to decide whether losing this year's CGT allowance will result in a much larger tax bill later on.
This strategy is arguably most suited to unit trust investors, in particular investors in index trackers who can easily substitute one fund for another without losing out on performance.
Sit it Out for 30 Days
Another alternative is to simply sell your investment, wait for 30 days and then reinvest. Here you have to weigh up your tax savings with the potential for the share price to rise.
Example
Kathy and Dave jointly own shares in a company worth £20,000 which were originally purchased two years ago for £10,000. They sell now and, using their CGT exemptions potentially save £2,800 in future capital gains tax. They decide to wait 30 days before buying again to comply with the 30-day rule. In that time the shares jump 5%. In other words, Kathy and Dave have saved £2,800 but lost out on £1,000 of profits. They're still well ahead, however, and the sale was arguably worthwhile.
Whatever you do it's important not to let the tax tail wag the investment dog!
Costs versus Tax Savings
If you sell shares or units in a fund purely to make use of your annual CGT exemption you still have to reinvest the proceeds. This will inevitably result in charges. In the case of shares there is brokerage, stamp duty and of course the bid/offer spread.
With unit trusts the costs are potentially far higher. For example many unit trusts levy an initial charge of as much as 5%. In these circumstances, where investment costs are quite high, it is essential to weigh up the costs versus the potential tax savings.
Remember, making use of your £10,600 annual exemption means taking profits of £10,600, which may mean selling a considerably far greater amount of shares if your returns are quite low.
Example
John has £100,000 invested in a unit trust. Over the course of the tax year he makes a profit of £10,600 and decides to sell his entire holding to make use of his annual CGT exemption. Doing so he saves himself £2,968 in tax (£10,600 x 28%). He then decides to reinvest in a different fund (to avoid the 30-day rule).
Because he has a large amount of capital he is able to get a discount on the initial charge and ends up paying 3% instead of the normal 5%. However he still ends up paying £3,318 in charges, completely wiping out his tax savings.
This is an extreme example but proves an important point: selling shares for tax reasons alone can be dangerous especially when costs are high or you have to dispose of a large block of shares to use all your CGT exemption.
About the Author
The Author of this article is our site Editor, Lee Hadnum. Lee is a rarity among tax advisers having both legal and chartered accountant qualifications. After qualifying a prize winner in the Institute of Chartered Accountants exams, he also went on to become a chartered tax adviser (CTA).
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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