Couples going through a divorce or civil partnership dissolution may worry that they will face paying Capital Gains Tax on any assets being sold or transferred between parties as part of a financial settlement.
What is Capital Gains Tax?
Capital Gains Tax or “CGT” is tax that is payable on the profit made on the disposal of an asset. Disposal can mean selling an asset, giving it away as a gift, swapping it for something else, transferring it to someone else or getting compensation for it.
To make a profit, the asset must have increased in value since it was acquired.
It is only the gain that is taxed, not the entire value. For example, if you buy a property for £150,000 and later sell it for £200,000, it is only the gain of £50,000 that is taxed not the total sale price of £200,000.
What do you pay CGT on?
CGT is payable when you dispose of assets including personal possessions worth more than £6,000, property (excluding your main home and car), shares (that are not in an ISA or PEP) and business assets.
What is exempt from CGT?
You do not pay CGT on your home provided you use it as your main home, you have not let it out, you do not use it purely for business and it is less than 5000m2. This is known as Principle Private Residence Relief.
Cash held in ISAs or PEPs, UK government gilts, Premium Bonds and money from betting, lottery or pools winnings is also exempt from CGT.
Spousal Exemption
Transfers of assets between spouses or civil partners are also exempt from CGT (as are transfers of assets to charity) as long as the parties are not separated.
Section 58 of the Taxation of Chargeable Gains Act 1992 provides that, if spouses (and more recently civil partners) separate, they can transfer assets to the other without crystallising a CGT liability during that financial year of separation.
The tax year runs from 6 April to 5 April the following year. Therefore if a married couple were to separate in June they would have until 5 April the following year to transfer any assets to the other without attracting a CGT liability.
Any transfers made in the following the tax year i.e. on or after 6 April following separation will crystallise a CGT liability for the party transferring the asset.
Separation
The statutory definition of separation is any date specified in a court order or formal deed of separation or “separated in such circumstances that the separation is likely to be permanent”.
Family Home
Regardless of the spousal exemption, the family home is not usually subject to CGT due to Principle Private Residence Relief. If both parties remain living in the family home until sale, it is unlikely that any CGT will be due.
If one party remains in the home following separation and the other moves out, the party that remains is unlikely to crystallise a CGT liability as the property remains their principle private residence.
Historically, the party that had vacated the family home had up to three years to sell their share or transfer it to the other, but this was reduced to 18 months in 2014 and further changes to the tax rules in April 2020 mean that they now only have nine months to sell or transfer their share.
Calculating and Paying CGT
Everybody has an annual exemption for CGT. After that, you pay 18% of the gain on residential property or 10% of the gain on other chargeable assets if you are a lower rate tax payer and 28% of the gain on residential property and 20% of the gain on other chargeable assets if you are a higher rate tax payer.
New rules mean that CGT on the sale of residential property must be reported to HMRC and paid within 30 days.
The key message is that transfers between spouses or civil partners are exempt from CGT during the tax year of separation. After that, they are likely to attract a CGT liability. It is therefore a factor which should be taken into consideration when negotiating a financial settlement given that it could have a significant impact on one or both of the parties. Specialist tax advice and legal advice is essential in these situations.
If you would like to know more about Capital Gains Tax and divorce, please contact a member of our Family Law team.
