Connected persons

If you are a connected person for tax purposes you will be required to substitute the market value of any asset you transfer or acquire when working out the gain or loss on disposal – not the amount you have actually agreed, unless of course this is the same as market value.

The most likely connection is that you are married or in a Civil Partnership. Fortunately if you and your spouse or civil partner are living together at any time in a tax year in which you make the transfer or sale, any gains are deferred until your spouse or civil partner sells the asset.

One consequence of being connected is that any company you control, either on your own or with other connected persons may be treated as associated companies and affect the amount of company profits that qualify for the small company’s rate.

The full list of connected persons for the purposes of transferring assets is set out below:

  1. Your spouse or civil partner.
  2. Your brothers and sisters, and those of your spouse or civil partner.
  3. Your parents, grandparents or other ancestors, and those of your spouse or civil partner.
  4. Your children and other direct descendents, and those of your spouse or civil partner.
  5. The spouses or civil partners of any of the above relatives.
  6. Your business partners and their spouses or civil partners and relatives (except for genuine commercial acquisitions or disposals of partnership assets.)
  7. As mentioned above any company you control, on your own or with any of the people listed above, will be connected for tax purposes.
  8. The trustees of any settlement where you or any person connected with you is a settlor.

The definition for the purposes of determining associated companies is more limited.

Clogged Losses

If for any reason you dispose of an asset to a connected person and make a loss on the transaction, the loss can only be used in the same year or carried forward and used against future gains, to the same connected person.

It will also be necessary to demonstrate that on the second or subsequent disposal you were still connected.

HMRC refers to these as Clogged Losses!

Making Gains

Unless you qualify for Entrepreneurs’ Relief, all taxable capital gains in excess of the annual exemption, presently £10,100, would be taxable at 18%.

There has been speculation that this rate will increase to discourage schemes to have income treated as capital gains. Next year, 2010-11, the top rate of income tax will be 50%, with some marginal rates up to 61.5%. With capital gains tax rates at 18% and in some cases 10% (if a gain qualifies for Entrepreneurs’ relief) and an annual exemption for individuals currently up to £10,100 a year, the temptation to steer earnings towards capital gains and take advantage of legitimate planning devices, seems inevitable.

The Pre-Budget report will no doubt clarify these expected changes and as soon as we have up-to-date information you will be the first to know.

In the meantime a quick reminder of the types of gain that qualify for Entrepreneurs’ Relief.

The relief has been available since the 6 April 2008 when indexation relief and taper relief were withdrawn for individuals.

Basically the relief is available in respect of:

  • gains made on the disposal of all or part of a business (this includes a sale of shares in a qualifying company)
  • gains made on disposals of assets following the cessation of a business, and
  • gains made by certain individuals who were involved in running the business

The first £1 million of gains that qualify for relief will be charged tax at an effective rate of 10 per cent. Gains in excess of £1 million will be charged at the normal 18 per cent rate.

An individual will be able to make claims for relief on more than one occasion, up to a lifetime total of £1 million of gains qualifying for Entrepreneurs’ Relief.

If you are interested in receiving more information regarding current tax planning in this area please call.

Tax position of unmarried couples

UK tax legislation relating to capital gains tax (CGT) and inheritance tax (IHT) is designed to  favour of marriage or Civil Partnership. The recent Budget has done nothing to change this.

Be aware that the phrase ‘common law wife or husband’ is misleading, if one partner dies without a will, the other will have no rights to the estate.

If you are committed to a long term life partnership with another individual, and you are not married or in Civil Partnership, the opportunities to mitigate CGT and or IHT are limited. This article discusses these limited options.

  • Assets owned when relationship started. Generally speaking it has been difficult to transfer assets between partners that were owned prior to the commencement of their relationship. For IHT purposes the transfer would be treated as a Potentially Exempt Transfer (PET) – any potential liability would only disappear after a seven year period. The IHT risk could be insured against by taking out a seven year life policy, but of course you would have to pay the premiums!

If assets are transferred between partners, and the asset in question is subject to CGT on disposal, any such transfer will create a CGT liability. The only exception is if the market value of the assets at the date of the gift or transfer is the same as, or lower than the original cost. With most share portfolios now in a loss position this may open up opportunities to equalise estates by gifting across securities. This may also crystallise CGT losses for the donor which he or she could put to good use.

Depending on the type of asset, transfers may trigger Stamp Duty Land Tax charges.

And finally, gains on gifts of certain business assets can be rolled over.

  • Assets purchased after the relationship started.  Assets purchased together after the relationship has commenced opens up the possibility of equalising estates by owning such assets jointly.

If there are concerns about unequal financial contributions made by partners to purchase the asset, these can be reflected in the percentage share.

In certain circumstances it may also be effective to use a trust to accommodate certain aspects of the transaction.

  • Insurance. If IHT planning is ignored a partner surviving a first death may be obliged to sell assets, if the couple’s assets were significantly above their nil rate bands. (Currently £325,000)

This may involve the survivor selling the family home, or taking out a mortgage, to pay IHT.

This risk can be covered by a first death life policy written in trust for the benefit of the survivor.

Conclusion

Most unmarried couples are disadvantaged in the UK tax system. Ultimately the only way to redress this is for our Government to legislate and remove this bias, or for affected couples to actually get married or enter into a Civil Partnership. Obviously there are many important non-tax reasons why this may be an inappropriate course of action to take.