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Last Updated: Tuesday, 27 November 2007, 14:08 GMT
Capital gains tax moves explained
Notes
The CBI believes the proposals will hit some business owners hard

Chancellor Alistair Darling has admitted that his plans to reform capital gains tax (CGT) are controversial.

The changes have been fiercely opposed by business groups since they were announced in October's pre-budget report.

But how does CGT work, and why have the plans stirred up so much comment?

WHAT IS CAPITAL GAINS TAX?

CGT is a tax on the profit made from the sale of assets such as shares, investments, valuable antiques or second properties.

Tax is only due on the gain over and above the owner's annual CGT allowance, currently 9,200 for the tax year 2007/08.

The tax is based on the profit made, not the total value of the sale.

At present profits attract tax at three rates - 10%, 20% and 40% - depending on whether the person in question pays income tax at the starting rate, basic rate or higher rate.

EXCEPTIONS

CGT is not normally due when you sell your primary residence or car, or when you sell or give an asset to your husband, wife or civil partner.

And an intricate and complicated web of reliefs can further reduce, or defer, CGT altogether.

The taper relief rules, introduced by then chancellor Gordon Brown in 1998, reduce the amount of the gain depending on the type of asset and the length of time it has been held. Both business and non-business assets qualify for relief, but it is more generous for the former.

Before 1998, it was also possible to reduce CGT by deducting an "indexation allowance" which was based on the increase in the retail prices index over the period of ownership. It was designed to cancel out the effect of inflation.

Assets sold after 5 April 1998 but bought before that date are subject to both sets of rules.

It is also possible to deduct some expenses before calculating the tax liability.

Under the present system some investors can pay as little as 10% CGT on the profit from the sale of assets as long as they have held the assets for at least two years.

WHAT CHANGES ARE BEING PROPOSED?

The government has not yet set out full details of how the new system would work, however, the main elements are known.

The annual CGT allowance would remain, as would the present exemptions for cars, primary residences and transfers to a spouse or civil partner.

The taper relief and indexation rules would be abolished altogether, although concessions allowing the deduction of certain expenses are expected to continue.

All gains would be taxed at 18% whatever the asset and no matter how long it had been held.

WHY ARE THEY SO CONTROVERSIAL?

The government says the new regime will be simpler and fairer.

It would mean people who sell valuable personal assets would pay a flat rate of 18% instead of up to 40% at the moment.

Private equity bosses would also no longer pay just 10% on their profits.

But business leaders argue the proposals will stifle entrepreneurship, by discouraging long-term investment.

For example, owners of small companies that have been operating for a number of years and who are approaching retirement age, would expect to pay CGT at 10% when they sold their business. Their tax bill would rise to 18% under the proposed changes.

The changes would also affect some employees who own shares in their employer. Under the current taper relief rules they pay 10% CGT if they hold the shares for at least two years, but in the future they would also be taxed at 18%.

ROOM FOR MANOEUVRE?

The government has come under severe pressure to scrap, or at least water down, its proposals after widespread criticism from business groups, opposition MPs and the influential Treasury committee of MPs.

A number of alternative proposals have been tabled which could see a phased introduction of the changes, or the creation of new allowances to offset the impact on business.

Alistair Darling says the government is listening to the concerns of the CBI and other business organisations, and has promised to publish final proposals in the next three weeks.

But given the strength of feeling the changes have aroused, agreeing a compromise will not be easy.

SEE ALSO
Cameron attacks tax increase plan
27 Nov 07 |  Business
Should capital gains tax be reformed?
27 Nov 07 |  Have Your Say
MPs call for tax reform rethink
26 Nov 07 |  UK Politics
Brown ally critical of tax reform
08 Nov 07 |  UK Politics
Brown rejected CGT reform in 2001
02 Nov 07 |  Business

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