More on the Capital Gains Tax Review

I commented briefly yesterday on the Review of Capital Gains Tax by the Office of Tax Simplification (OTS)  – see https://roliscon.blog/2020/11/12/capital-gains-tax-review-a-missed-opportunity/ where I called it a “missed opportunity” to substantially reform the tax.

The more one looks at their proposals the more some of them appear to become absolutely bizarre. For example I mentioned the proposal that the rebasing of an asset to the current value when it is inherited should be removed – in effect the new owner would have the original cost retained.

This has two implications. Firstly it means that the full value of the same asset is taxed twice – once in IHT when it is inherited, and again when the inheritor subsequently disposes of it in capital gains tax. At least at present, the inheritor only pays tax on the growth in value during their ownership. But if the latter tax is based on the original value rather than the last inheritance, it could go back very many years in time. This is what Tim Stovold of Moore Kingston Smith said in the FT on this issue: “If this change should become law, capital gains could accrue across multiple generations making assets unsaleable due to the astronomical tax liability — a liability that could come home to roost if they were ever sold”.

The second issue with this is that in practical terms it means that an inheritor would need to know not just the value of the asset as fixed by probate, but the value when originally acquired by the deceased. This could be an impossible task because past records are rarely kept with such accuracy and longevity.

The FT published a good article under the headline “What does CGT review mean for investors” where it pointed out other problems with the review’s proposals and quoted a number of people giving negative comments.

One can only conclude that if the Government pushes ahead with these proposals, that one should rearrange one’s financial affairs to hide as much as possible in ISAs and SIPPs, or buy big houses to live in (not subject to CGT) and not invest in company shares or your own businesses. Or alternatively avoid accumulating assets and spend the cash before you die. This surely makes no sense in policy terms!

Roger Lawson (Twitter: https://twitter.com/RogerWLawson  )

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Inheritance Tax Simplification – Perhaps

On Friday (5th July) the Office of Tax Simplification (OTS) published their second report on the simplification of Inheritance Tax (IHT). You only need to read the report to see how complex it is at present. They have made some recommendations for changes but they are relatively minor. Major changes were ruled out. Even the suggested changes need to be accepted by the Treasury so they may not be implemented, and even if they are it appears likely that they would not happen quickly. These are some of the key proposals:

  • Exemptions for gifts might be simplified. For example, the exemption for “normal expenditure out of income” is unclear in effect and requires detail record keeping for many years which few people are capable of doing. They suggest it be replaced with a higher personal gift allowance. Tip: keep a spreadsheet of all income and expenditure (including gifts) if you are making personal gifts at present.
  • The 7-year period after which gifts are free from IHT also creates problems in record keeping (even bank statements are not retrievable after 6 years), particularly as it can extend to 14 years. Taper relief is another complication. The proposal is to scrap taper relief and have a simple 5-year rule for exemption.
  • The residence nil-rate band introduced a lot of complications in IHT calculations and received a lot of negative comments but they don’t propose to remove or simplify this area as they say it’s still relatively new and more time is required to evaluate its effectiveness. But it says some solicitors choose not to advise clients about this concession because it is so complicated!
  • They propose no change to the provision that reduces the IHT tax rate on all assets to 36% if a person leaves more than 10% of their estate to charity despite the fact that it is little used. Note: this is a very useful facility so if you have a will that does not include such a provision then you need to review it because it can reduce your overall IHT bill.
  • Business property relief, particularly on “unlisted” AIM shares, was considered in the review. It questions whether third party investors in AIM traded shares meet the “policy objective” of Business Property Relief (BPR). But it makes no specific recommendation other than noting that removing APR (Agricultural Property Relief) and BPR would fund a reduction in the main rate of IHT to 33.7% from 40%. However it does point out the anomalies in determining whether a business is trading or is just an investment vehicle and in non-controlling shareholdings held indirectly. It suggests this be reviewed.

Is there a threat to IHT relief on AIM shares? It is not clear that there is and certainly not in any short-term time frame. In any case, investing in AIM shares simply because they offer IHT relief is a bad policy. Investment should never be driven by tax considerations. In addition the requirement to hold them for 2 years makes for dubious trading decisions and the complexity in record keeping if one trades in the shares of AIM companies can be mind-boggling.

In summary the proposed changes, even if HM Treasury supports them, are not going to simplify IHT that much. You will still need to take expert advice on this area of your financial affairs and tax accountants will not be put out of work. There is no revolution proposed.

You can read the OTS report here: https://tinyurl.com/y65jubxz

Or read my original comments on what should have been done here: https://roliscon.blog/2018/05/31/inheritance-tax-review/

Roger Lawson (Twitter: https://twitter.com/RogerWLawson )

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Savings Income Tax Review

In addition to the review of Inheritance Tax previously covered, the Office of Tax Simplification (OTS) are also undertaking a review of ways to simplify the taxation of income from interest on savings and dividends. Although 95% of the population pay no tax on such income as they have relatively little, the complexities of calculating the tax due on those with higher levels are mind boggling. Here’s a couple of quotations from the OTS Report (see https://www.gov.uk/government/publications/simplifying-the-taxation-of-savings-income ) which explain why:

“Many of the issues have arisen because of a series of changes, each working well enough taken by itself but which together create significant complexity that is not easily resolved”; and:

“The starting rate for savings (SRS), personal savings allowance (PSA), dividend allowance and other allowances and features of the tax system mean that most people pay no tax on their savings, but the interactions between the rates and allowances is sufficiently complex at the margins that HMRC’s self-assessment computer software has sometimes failed to get it right. It is proving to be very difficult to create an algorithm that calculates the tax correctly in all circumstances and HMRC does not expect to bring the complete calculation online until 2018-19.”

For those with complex tax affairs, or significant levels of dividend income who are probably some of the readers of this blog, this is not a trivial problem. Even my large firm of accountants who do my personal tax returns seem to be having problems with the software they use of late. I would certainly hate to try and do my own tax returns now.

One of the past simplifications which has been very damaging to stock market investors was the introduction of a “dividend allowance” of £2,000 to replace the dividend tax credit system. Although investors can put money into an ISA where dividends are not taxed (and could be paid out), there are severe limits on the amounts that can be invested in an ISA. That limit is £20,000 in the current tax year but has been much lower in the past and may get reduced again. For those shareholdings not in an ISA or SIPP, the removal of the dividend tax credit system means that the Government is collecting tax twice on the same company profits. Once when corporation tax is paid by the company and again when dividends are paid to investors out of those profits. This is surely iniquitous even with the current relatively low level of corporation tax. This change was allegedly made to prevent small incorporated businesses from avoiding income tax by paying profits out via dividends instead of via salaries subject to PAYE, but there were other simple rule changes that could have prevented that.

What does the OTS propose to do to simplify the calculation of savings tax? They wish to introduce a “personal tax roadmap” incorporating a plan for consolidation of the savings income tax rates and allowance. Also they wish to improve guidance because it is clear that people have difficulty in understanding the existing system. More flexibility in ISAs might also be considered to allow partial transfers of money and simplify the rules.

One specific threat in the document is this: “A more radical option would be to end the differential tax rates for dividend income. If all taxable income was taxed at the same rates, it would not matter how the personal allowance was used. Making this change would have the effect of increasing the amount of tax due from those who receive amounts of dividend income above the allowance. It would also impact on the taxation of profit extracted as a salary or as a dividend, from family owned companies.”

Investors receiving substantial dividends directly have already suffered a major tax increase from the removal of the tax credit system (the £2,000 tax free allowance is trivial in comparison with the income likely receivable by a portfolio large enough to fund a retirement for example). The new suggestion that dividends should be taxed the same as earned income would be another damaging imposition (the former are currently taxed at somewhat lower rates, although Trust rates are higher – another anomaly that is difficult to explain).

You can send your own comments to the OTS via email to: ots@ots.gsi.gov.uk .

As I said in the Inheritance Tax Review you might suggest to them that the present arrangements seem to generate work for tax accountants while baffling the general public. Like IHT, income tax is certainly a tax that requires simplification. A more fundamental review is surely required. However it’s worth bearing in mind that individuals have often planned their financial affairs based on existing tax rules. Abrupt changes to tax rules and allowance should be avoided, but that’s all we have had for the past few years, driven by political imperatives. The result has been the unintended consequence of a very complex tax system that few people understand and which makes tax calculations only possible by experts.

Roger Lawson (Twitter: https://twitter.com/RogerWLawson )

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