Capital Gains Tax

In his 2022 Autumn Statement, Chancellor of the Exchequer Jeremy Hunt announced a reduction of the individual Capital Gains Tax (CGT) allowance from £12,300 for the tax year 2022/23 to £6,000 in 2023/24. It has further decreased to £3,000 in 2024/25 and remains frozen thereafter.

According to the Office for Tax Simplification (OTS), the changes will likely see 225,000 people forced to undergo self-assessment for the first time upon the reduction to the £3,000 threshold. Another 110,000 will also now be required to complete the CGT section of their tax return.

Investors, and their financial advisers, will also have to start factoring in considerations relating to CGT when deciding how best to structure their portfolios. Assuming a theoretical 5% realised annual capital gain, you would have to have had a portfolio of £246,000 before becoming liable for a penny of CGT in 2022/23.

Following the changes to CGT allowances, this fell by more than half to £120,000 for the 2023/24 tax year and has halved again to £60,000 for the current 2024/25 tax year. While the CGT allowances have fallen in recent years, the rates at which CGT is paid, have remained largely unchanged.

The basic rate remains at 18% on residential property gains and 10% on all other assets (where the taxable gain added to income remains within the basic rate band), while they are at 24% and 20% for those in the higher- and additional-rate brackets (or where the taxable gain added to income crosses into these bands). While the reduction in CGT allowances may not be an issue for smaller taxable portfolios, it can lead to unintended consequences for those with larger taxable portfolios that may already be carrying large unrealised gains.

In these situations, the decision to not pay CGT can lead to ‘portfolio drift’ i.e. the Investment Manager ceases trading to avoid realising gains in excess of the allowance and consequently the asset allocation of the portfolio ‘drifts’. This can result in the underlying risk profile also changing (higher or lower than the client is comfortable with).

With the CGT allowance at £3,000 heavily constrained CGT portfolios may even find it difficult to fund an ISA without exceeding the annual CGT allowance. While none of us like paying tax voluntarily, it is worth bearing in mind that CGT rates remain more favourable than Income Tax rates (20%, 40% and 45%). For example, an additional rate taxpayer, would only pay 20% on gains realised in excess of the £3,000 annual allowance compared to 45% Income Tax.

Given the current low rates at which CGT is charged, clients should discuss with their financial advisor whether paying some CGT would be beneficial in the long run. For example, if the current annual allowance was exceeded by £9,300 i.e. £12,300 (the same as the allowance in 2022/23), a higher or additional rate taxpayer would have a CGT liability of c.£1,860. This is a relatively small amount of tax to pay in order to keep your portfolio’s risk profile on track and allowing the Investment Manager to continue to manage the portfolio in line with your overall objectives.

Clients will also need to bear in mind that a holding within their portfolio may be subject to a corporate action leading to the disposal of the holding, resulting in the realisation of a gain and consequently a potential CGT liability. The investment Manager will have no control over a corporate action.

The reduction in the CGT allowance also highlights the importance of maximising ISA and pension allowances. Funds held within ISA and pension wrappers will grow free of CGT and income tax thus avoiding many of the CGT issues raised above.

For those clients with taxable portfolios who have not already discussed the possible impact of a reduced CGT allowance with their financial adviser, I would encourage that you do so sooner rather than later.

There are no definitive answers as to how someone approaches the thorny issue of paying or not paying CGT however, making an informed decision will definitely avoid unpleasant surprises on your tax return!