In his Budget, chancellor Gordon Brown unfurled his plans for thery-Wingfield. reform of capital gains tax for individuals. At the same time, he invited representations by the end of June on a parallel reform of CGT for companies.
What does he have in mind for companies? The only steer we have is that the reform, like that for individuals, is to encourage savings, more investment, longer-term investment and fairness. But what the chancellor is doing for individuals gives a good idea of what he has in mind for companies. So, based on this precedent, what can we expect?
One thing that we can’t expect is simplicity. CGT is complex enough already but what we’re now getting for individuals is even worse: we have both the lingering residue of indexation and the intricacies of tapering, each with different matching rules and different time factors.
Tapering in place of indexation
We can expect indexation to be frozen at its April 1999 amount, and tapering to be introduced to ensure that (to a point) the longer the asset has been held, the more the gain will be reduced.
As with individuals, we can expect tapering to be a lot more generous for business assets (7.5% a year) than for pure investments (5%), and that it will start to run once the asset has been held for one year, not three.
The Inland Revenue has calculated that, assuming 2.5% inflation and 3% real growth, the gains on business assets will be smaller under tapering than with indexation after being held for nearly seven years.
This is quite a long period – longer still if inflation turns out to be higher than the ambitiously low target of 2.5%, but conversely shorter if the real growth is greater than 3%. Shares in subsidiaries and business properties are often held for more than ten years, when tapering comes to a halt but inflation keeps marching.
For an asset with a high base cost, the loss of indexation represents a tax on the preservation of real value – in effect, a wealth tax – which tapering won’t adequately offset.
The converse is, of course, that for an asset with a nil cost, such as created goodwill, indexation is worth nothing and tapering is pure gain.
Another worrying feature is that the system may not cater adequately for rollovers of different sorts. Take an individual who claims rollover relief on selling business asset A after holding it five years and re-investing in asset B, which he sells after a further four years. He receives taper relief on the overall gain – that is, the proceeds of asset B less the cost of asset A.
He might expect to get a nine-year reduction of 67.5% but he’s in for a shock – he only gets the 30% reduction for the four years he has held asset B. This might be regarded as fair as it puts him in roughly the same position as if he didn’t claim rollover in the first place. But it leaves him worse off than if he had kept asset A all the time and so got 67.5% tapering – or if indexation had continued in place of tapering.
Tapering will therefore act as a disincentive, say, to replace a building bursting at the seams with a more spacious one. Surely, this is not the ‘short-termism’ that the new system is meant to discourage.
Let’s hope also that similar problems won’t arise with transfers of assets within a group or on a reconstruction.
Losses are untapered
Another problem area for individuals, and therefore potentially for companies, is the relief for losses.
Losses are untapered, whether upwards or downwards, and are set against untapered gains.
So a loss may be set against a gain that would otherwise be heavily tapered – bad news, as it reduces the taper – or lightly tapered (good). This has nothing to do with how long the asset producing the loss was held, and the result is something of a lottery.
It can be seen that the new regime for individuals bristles with problems.
Study them and make representations if you don’t want the same to happen with companies.
Maurice Parry-Wingfield is a tax consultant at Deloitte & Touche.
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