A CGT rule change in April 2020 will impact on ‘accidental’ landlords, but there are ways to cut your CGT bill.
Capital gains tax receipts (CGT) are at a record high, rising by 18% over the past two tax years (2017/18, 2018/19), from £7.8 billion to £9.2 billion.
The government’s tax squeeze on buy-to-let landlords is behind the increase. Various government measures introduced over the past couple of years have made buy-to-let property less appealing, and one of the rule changes to have a particularly profound impact was the phasing out of tax relief on buy-to-let mortgage interest in 2017.
As a result of returns diminishing, many small private landlords have decided a rental property portfolio is no longer worth the hassle – but those who have sold since 2017 have incurred an 8% “second property” surcharge on standard rates of CGT. In turn, this has led overall CGT receipts to rise to record levels.
In the 2019/20 tax year, there will be no surprises if CGT rises further, following a rule change from April that will negatively impact landlords, who at some point themselves lived in their rental property.
As things currently stand, provided that the property they are selling has at some point been their only or main home, landlords are exempt from paying tax on capital gains accrued during the final 18 months of ownership, under the principle private residence exemption. From April 2020, though, this exemption period will be cut to nine months, meaning an extra nine months of gains will be subject to CGT.
According to analysis by accountancy firm RSM, this change is expected to raise £470 million for the Treasury over five years.
In cases when a landlord at some point lived at a property that’s now being rented out, CGT is only applied on the amount the property rose in value when they were not living at the property.
Accountancy firm Moore points out that the new restrictions will also potentially have a significant effect on the CGT liabilities of ‘accidental’ landlords: individuals and couples who have moved home but retained a previous home to let – perhaps because they cannot find a buyer for their desired price or would like to renovate before selling property.
Under the new rules, those buying a new primary residence before selling the old one will need to ensure a sale of the old property takes place within nine months to avoid a potential CGT charge.
Landlords are expected to sell up ahead of this rule change. According to Jonathan Green, a partner at Moore, the impact of these changes on small portfolio investors and ‘accidental’ landlords may further restrict the supply of rental property in the long term.
He adds: “For some small landlords, the latest tax relief cuts are likely to be the final straw, pushing them out of the market. Buy-to-let landlords with smaller portfolios make up a huge part of the rental market. If their numbers continue to fall it could create a supply deficit which may result in higher rents longer term in some areas.”
CGT is charged on profits from the sale of assets including shares, funds, second homes or buy-to-let properties, business premises, paintings and antiques worth over £6,000, with the rate dependent on the individual’s income and the type of asset sold.
Lower-rate taxpayers pay 10% tax on capital gains, and higher and additional rate taxpayers pay 20%. The only exception is people selling second properties, including buy-to-let investments. Capital gains on these investments are taxed at 18% for basic rate taxpayers, or 28% for higher and additional rate taxpayers.
However, every year you can take advantage of your capital gains tax allowance. In 2019-20, you can make gains of £12,000 before you start paying CGT.
Additionally, there are various ways a CGT liability can be reduced, and on that front Money Observer has come up with a list of nine ways individuals can cut down their bill.
One of the ways is to invest in an Enterprise Investment Scheme (EIS), which offers a 30% income tax credit to investors who buy shares in small, unlisted companies and hold them for three years.
If you already have a CGT liability, you can postpone it by investing the equivalent amount in EIS shares; any capital gain that's due, up to the amount invested, will be deferred until the EIS is cashed in. Moreover, provided you subscribe for the EIS shares within one year before or three years after selling your assets, and hold the EIS for at least three years, there is no tax to pay on any capital gains when you dispose of them.
This mechanism can be used by higher-rate taxpayers to defer a CGT liability until they retire and become basic-rate taxpayers, and can even be repeated, enabling investors to continue rolling over the liability until death, when EIS shares would be exempt from inheritance tax and the CGT liability would dissolve. However, as young, unquoted companies, EIS are high-risk, and it may not be easy to realise your investment when you’d like to.
Gary Robins, head of business development at private equity investment firm Growthdeck, adds: “A huge number of people are paying CGT bills earlier than they need to. For those with significant taxable gains, EIS can make CGT bills much more manageable.
“CGT relief is only one part of the tax benefits – EIS investors can also reduce their income tax and IHT bills too. The scheme is an invitation from the government to cut your tax bills and in return you are helping the growth of British businesses, creating employment and helping the economy. For those looking to exit buy-to-,let portfolios, it can make a great deal of sense.”