Changes to capital gains tax on divorce

HMRC have published draft legislation to change the rules on the transfer of assets between spouses and civil partners who are in the process of separating and are no longer living together.

Current rules

Under the present law, spouses and civil partners are able to transfer assets between themselves at no gain no loss for capital gains tax (CGT) purposes, up to, and including, the year of permanent separation. After the year of permanent separation, any transfer of assets is subject to CGT with the deemed disposal proceeds being the market value of the asset.  This tends to mean that by the time of a divorce or a dissolution of a civil partnership, CGT liabilities can arise when assets are transferred as part of the financial settlement.

Proposed changes

The proposed rules for disposals on or after 6 April 2023 will introduce a much more favourable tax treatment. The separating spouses or civil partners will be given:

  • Up to 3 years, after the year of separation, to make no gain no loss transfer of assets.
  • Unlimited time to transfer assets when they are subject of a formal divorce agreement.
  • A spouse or civil partner who retains an interest in the former matrimonial home will have the option to claim Private Residence Relief when it is sold.
  • Individuals who have transferred their interest in the former matrimonial home to their ex-spouse or civil partner, and are entitled to receive a percentage of the proceeds when that home is eventually sold, will be able to apply the same tax treatment to on the receipt of those proceeds that applied when they transferred their original interest in the home to their ex-spouse or civil partner.

Planning financial settlements tax-efficiently

The proposals are intended to provide valuable time for spouses and civil partners in the process of separating to organise their financial affairs without unwelcome CGT liabilities, which is positivenews.

For families and their advisers, the proposed changes create some helpful tax outcomes including:

  • It should be easier to transfer assets without the risk of a “dry tax charge” arising (ie where there are no cash proceeds).
  • It should remove the complexities around establishing the date of disposal for separating couples.
  • It can remove the complications of whether CGT holdover relief is available on a transfer of assets, post the year of permanent separation, between a separating couple.

However, complexities remain for separating couples

Although the proposals are welcome, separating couples will need still need to consider the tax consequences of their proposed financial settlement where other asset disposals are envisaged, including in the following scenarios:

  • CGT may still arise if cash is required as part of separation so proactive consideration is needed where there  disposals of an asset to a third party, or where it is difficult to agree the future ownership of the asset.
  • The UK tax changes will not apply where any overseas assets trigger tax issues in the local jurisdiction – so tax could still arise on a transfer of an asset between a couple depending on where it is situated.
  • Proactive planning to make use of the tax reliefs available to both parties can deliver significant financial benefits to both parties on divorce. However, the extension of the no gain no loss provisions means that on a transfer of an asset it is unlikely to be possible to benefit from any CGT reliefs to which the transferor is entitled, ie using capital losses or Business Asset Disposal Relief against the deemed gain that arises because the transferred asset is treated as disposed of at market value. Equally, the recipient acquires the asset at its original acquisition value, so this may trigger a significant tax charge if they later choose to sell it.
  • The proposed rules do not extend to income tax and therefore any dividends or bonuses taken from family company (often used to fund a settlement) may still trigger liabilities. 

Detailed planning still required

In summary, when considering the financial order and the split of assets between a separating couple, it is vital to consider the tax position of the couple in detail as tax can still reduce the total value of the assets to be divided between the parties. In most circumstances it will be important to understand any latent capital gains within the assets to ensure there is an equitable split of value.

For example, husband and wife, own a property portfolio and it has been agreed, upon divorce, the husband will be the sole owner of a property worth £500,0000 which was originally acquired for £100,000 and the wife will be the sole owner of a property worth £500,000 with an acquisition cost of £300,000. If all things remain equal, on a future sale of the properties the husband will have a larger capital gains tax liability due to the lower acquisition cost.

If you have any questions regarding the proposed changes of any tax issue affecting separating couples, please do not hesitate to get in touch with Fiona Hall.

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