Paraplanning and Capital Gains Tax: The outlook for 2021
3 January 2021
Paraplanners may have to adapt to a new Capital Gains Tax regime in 2021, and explain it to clients. Gerry Brown looks at the implications of the recent report from the Office of Tax Simplification and the questions it’s raised.
In November 2020 the Office of Tax Simplification (OTS) published the first part of its review of Capital Gains Tax (CGT) Simplifying by Design.
In July 2020, the Chancellor of the Exchequer asked the OTS to carry out a review of Capital Gains Tax, to “identify opportunities relating to administrative and technical issues as well as areas where the present rules can distort behaviour or do not meet their policy intent”.
This report concentrated on the policy design and principles underpinning the tax. A second report which is expected to be issued early in 2021 will explore key technical and administrative issues.
In 2019/20 HMRC collected CGT of some £9.98 billion. It is fair to assume that in these Covid ravaged times the Chancellor would like the ‘take’ to be increased. OTS can only make recommendations. It is for the Chancellor to make policy decisions.
The report was based on an analysis of gains in 2017/18. Only 0.5% of the population paid CGT. There were 265,000 taxpayers and the average taxable capital gain was £200,000. It was clear that the bulk of the gains was made by a small number of taxpayers.
Individuals between the ages of 45 and 74 accounted for 78% of the gains. In very broad terms the categories of individuals who are likely to pay capital gains tax are:
• business owners
• investors, including buy-to-let investors
• employees using share schemes.
The OTS raised a number of questions.
Should capital gains be taxed at a similar rate to income?
There are currently four rates of CGT – all less that the rates levied on equivalent slices of income. One school of thought is that CGT rates should be more closely aligned with income tax rates.
Should items currently within the scope of CGT be brought within the ambit of income tax?
The obvious example is gains on shares acquired through employee share schemes. On one view these are a reward for services as an employee and should be taxed as such.
How should the tax system deal with inflationary gains?
It is generally thought desirable that gains due to inflation should not be taxed but it is difficult to devise a system to give effect to this desire.
The current low rates of CGT, relative to income tax, provide some compensation. The relatively high annual exemption had, when significantly increased in 1982, the stated policy objective of compensating for inflationary increases.
The OTS consider use of the annual exemption as an ineffective way to compensate for inflationary increases because “it does not consider holding periods or asset values”.
Should some reliefs be abolished?
The OTS research showed that Investor’s Relief was rarely used. It advocated reform to Business Asset Disposal Relief (BADR) – formerly known as Entrepreneurs’ Relief.
The OTS concluded that if the objective of BADR was to stimulate investment, it was “mistargeted”. Stimulants are best given at the start of the investment journey rather than at the end.
Should the annual exempt amount – currently £12,300 – be reduced?
The UK’s exemption is high compared to other countries. Reducing the annual exemption would require more individuals to self-assess – increasing administrative and compliance costs.
It might also raise tax. But would individuals plan disposals to trigger gains just within the annual exemption as an estimated 50,000 currently do?
Should the tax-free uplift on death be retained?
CGT and inheritance tax enjoy a close interaction. On death, assets subject to CGT have their base cost uplifted to market value.
When these assets are sold by heirs only the post-death gain is taxed. Gains over the period of the deceased’s ownership are excluded from tax.
There is an assumption that the market value of assets at death will be brought into account for inheritance tax purposes. But that assumption is invalid where reliefs such as business and agricultural reliefs apply. Spouse exemption can also invalidate that assumption.
The OTS “continues to recommend that a taxpayer should not get both an inheritance tax exemption and a capital gains tax death uplift”.
What will the Chancellor do?
He has tax policy advice from OTS, economic policy advice from the Treasury and political ‘advice’ from his fellow MPs. He has the difficult task of balancing these competing interests.
Change seems certain – the direction of change, much less certain.
2021 will almost certainly see paraplanners have to cope with a new CGT regime. It will need to be explained to clients and its impact on individual clients quantified.
Gerry Brown began his professional career as an inspector of taxes and later qualified as a chartered accountant. He’s worked at a number of financial services companies providing technical support and contributes to our Diploma in Paraplanning (DipPP).
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