When couples separate, one of the last things they might be thinking about is tax.
Unfortunately, the division of the matrimonial home and other properties between the couple may trigger a capital gains tax bill (“CGT”).
CGT is a tax charged on the transfer (or sale) of a property. It is a tax on the increase in value since the property was acquired. CGT is charged at higher rates for residential properties than for other assets, being charged at 18% (for basic rate taxpayers) or 28% (for higher rate tax payers). In the current 2017/18 tax year the first £11,300 of gains for each of the couple is CGT free.
When a married couple (or civil partners) are living together, any properties transferred from one to the other pass CGT free. When a couple separate, this relief from CGT is extended but only until the end of the tax year of separation. After that the relief is lost. The CGT relief for spouses is therefore only available for a short time. This is a particular issue if a couple separate near to 5 April, when it can be impractical to expect agreement to be reached in time to avoid the CGT.
Take, for example, a couple who own a rental property and separate. They decide that one spouse shall transfer that house to the other. If this transfer is agreed in a contract between them in the tax year of separation then the transfer is CGT free. If, however, the couple agree the transfer in any following tax year, then any gain in value of the property will incur a CGT bill to be paid by the transferring spouse. In that case it may be worth considering whether the transfer could be made from the spouse paying tax at the lowest rates and with the most available annual exemption, or spreading the transfer over tax years.
The opportunity to hold-over, or defer, CGT until the property is subsequently disposed of by the recipient spouse, is not available where the parties are transferring property under an agreement. This is unless the parties can show that one party was sufficiently generous to the other to justify the transfer as being treated as a gift. Hold-over is, however, available if a transfer of property is directed under certain court orders.
There is usually no CGT where the principal private residence is transferred or sold. However, where one spouse moves out and decides to transfer the house to the other, the spouse moving out can only claim this relief if the transfer is agreed within a period of 18 months after he or she moves out. This is again a short timescale for reaching agreement.
The spouse moving out will not be able to claim relief on a second house. Therefore if the spouse moving out is looking to buy a property in a rising market with a gain likely to accrue then they should compare the CGT on each property and decide whether it is better to preserve the relief for that new house and pay the CGT on the former matrimonial home instead.
If the couple decide to sell the house, then relief from CGT on the gain made on the sale will only apply if one spouse remains there and the sale is completed within 18 months of the other moving out.
Careful and timely consideration and advice on CGT is required by separating couples. The Personal & Family team at Brodies LLP would be pleased to assist.