TaxAug 28 2018

Gift guide: The traps to watch out for

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Gift guide: The traps to watch out for

With markets riding high, those wanting to pass on wealth in their lifetime may find themselves landed with a capital gains tax (CGT) bill in return for their generosity. 

Any gifts would then run the risk of double-taxation if the donor dies within seven years and the gifts fall into the inheritance tax (IHT) net.

Hold-over relief

Gift hold-over relief is available to allow assets to be gifted without triggering a disposal for CGT purposes. The most common scenarios where hold-over relief is available are:

l Gifting assets that qualify for business relief, such as unlisted or Aim-listed shares held for the qualifying period, or agricultural relief

l Gifts that are chargeable lifetime transfers (CLTs) for IHT purposes, such as transfers into a relevant property trust and transfers out of a discretionary trust to a beneficiary. Hold-over relief is available regardless of whether any IHT is actually due as a result of the CLT.

Hold-over relief essentially passes the base cost of the asset to the recipient. The relief is particularly useful where the donor may not have suitable liquid assets to pay any CGT. 

Where hold-over relief is claimed, the gain that would have been realised on disposal is passed on to the recipient and reduces their acquisition cost. A simple example is given in Box One. Hold-over relief needs to be claimed with HMRC. For gifts into trust only the settlor (transferor) needs to claim. In other scenarios both the transferor and recipient need to claim.

The claim must be for the full gain on an asset. It is not possible to claim for only part and have the remainder classed as a disposal. For example, you could not subtract the annual exempt amount (AEA) from the gain and then hold over the balance. If transferring multiple distinct assets, such as a portfolio of shares, then a claim can be made for specific assets and not for others.

Relief from CGT is automatically available on gifts to charities and certain other bodies, and gifts of works of art in specified circumstances.

Planning around CGT

A typical scenario for an adviser is one where an individual wants to undertake some IHT planning but assets are invested and showing healthy gains. 

Selling the assets to make a cash gift would trigger a disposal for CGT purposes, as would a direct gift. The client may not have the desire or cash to pay the CGT liability and may therefore need to reduce the value of the gift accordingly.

However, where a discretionary trust would meet the client’s estate planning objectives, hold-over relief could be used to pass the gain on to the trustees. The trustees could then rebalance the portfolio over several tax years to minimise any taxable gain. They could also pass on a held-over gain as/when they decide to distribute capital to a beneficiary. See Box Two.

The trustees do need to be mindful of their duties to the beneficiaries and not hold on to unsuitable investments simply because they do not want to incur a CGT liability or complete a tax return.

More options

Hold-over relief can also be used for distributions from relevant property trusts to beneficiaries. A trust will have a CGT AEA of half the individual amount (£11,700 in 2018-19); that is, £5,850. 

The trust’s AEA may then be further reduced by dividing it by the number of trusts settled, capped at five. All taxable gains within a relevant property trust will be chargeable at 20 per cent (28 per cent for gains on residential property).

In comparison, each beneficiary will potentially have a full AEA, and any gain over that amount may fall into the basic-rate band and be subject to CGT at the relatively attractive rate of 10 per cent (18 per cent for residential property gains). 

Therefore, a CGT liability can be significantly reduced or even completely eliminated by passing trust assets in-specie to one or more beneficiaries, rather than selling within the trust. 

Claiming for losses

A capital loss is first set against capital gains made in the same tax year. The AEA is then subtracted from the net gains to determine the taxable gain. It is not possible to offset only part of the current year’s losses to bring gains down to the AEA.

Any losses that exceed gains in the tax year can be carried forward indefinitely, provided they are registered with HMRC in good time. Losses can be registered up to four years after the end of the tax year in which the loss was incurred. For example, if a shareholding was sold at a loss in August 2018, the taxpayer has until 5 April 2023 to register the loss. Claims are made via self-assessment, or by writing to HMRC if outside the self-assessment regime.

Exceptions

It is not possible to claim a loss against assets passed between spouses or civil partners who are living together – these transfers are made under the spousal exemption (no gain, no loss transfers). 

The spousal exemption does not apply after the end of the tax year in which a married couple or civil partners separated. This means that hold-over relief may be available when dividing assets between separated couples or as part of a divorce or civil partnership dissolution.

There is also special provision for losses resulting from disposals (gifts, sales) to ‘connected people’, which includes close family and business partners.

CGT should not necessarily be a deterrent to gifting, but there are sensible tax planning routes to reduce or even eliminate any double taxation.

Victoria Harman is senior technical expert at Hargreaves Lansdown