Andrew Hubbard highlights three areas of capital gains tax that might be in the OTS’ sights when it carries out its imminent review.
The publication of the Office of Tax Simplification’s call for evidence on possible changes to capital gains tax led to a flood of press headlines suggesting radical reform was in the Chancellor’s sights and that increased receipts from capital gains would be one way of plugging the gap in the public finances caused by the pandemic.
The Chancellor might have been surprised by this reaction. The OTS’s work has been around improving the operation of the system and suggesting ways in which it can be made more straightforward for taxpayers and HMRC alike. It doesn’t have a policy remit – it can suggest areas where policy should be reviewed but it certainly doesn’t have the power to make changes.
After the initially flurry of headlines there were indications that the Treasury might be trying to dampen down expectations about what might come out of the review. But now the genie is out of the bottle it may be that the OTS’s report, when it is eventually compiled, will take a bolder approach to reform than we have seen before.
So let’s work on the assumption that fundamental reform is on the agenda. What might be looked at? Here are three areas where there is scope for real change.
An Englishman’s home is his – tax free – castle?
The first is private residence relief. Home ownership is engrained into the British psyche and there is an automatic assumption that when the time comes you can sell your house for a handsome profit entirely tax free. Is that idea still sustainable? Could there come a time when the gain on a private residence is subject to CGT? Is a private house really in a completely different category to anything other form of asset?
Of course any system of taxing such gains would be fraught with difficulties – would gains be rebased to the date of the new rules or would there be time apportionment: would each disposal be taxable or should there be a form of rollover when buying another residence: what would happen on marriage breakup? But those technical issues would be drowned out in the public outcry which a change would almost certainly provoke. But should that stop reform? After all it is possible to do the unthinkable in tax and survive. A generation ago tax relief for mortgage interest was thought to be a fundamental right. Yet it was abolished with little real difficulty. Young people are amazed at the very thought that they could once have got a tax subsidy for buying their house.
The only certainties in life are death and taxes
A second area which should be looked at is the interaction between capital gains tax and inheritance tax.
Over the years the rules here have been subject to constant change. When CGT was first introduced there was a taxable deemed disposal on death, with relief against death duties being given for the tax payable. Now gains are washed out on death.
Similarly, at one time all gifts were (subject to making an election) free of capital gains tax but there was capital transfer tax on lifetime gifts. I could go on, but you get the point: there is considerable overlap between the two taxes and it is very difficult to see the real policy intent behind how the rules operate. Very few people understand them, as evidenced by regular questions in the financial columns of the press from people asking about CGT on their parents’ estate. A completely fresh look at this whole area is long overdue.
Britain is a nation of – tax relieved – shopkeepers
Finally, there is the whole question of how CGT operates for business. There has always been some form of relief on disposals of business, going back to the days of retirement relief but it has not always been clear what the policy intent behind the rules has been. Is it to give people a tax break when they cease running a business or is it to encourage people to become serial entrepreneurs, building up and selling multiple businesses during their working lives?
The recent reduction in the entrepreneurs’ relief limit, to say nothing of the renaming of the relief as business asset disposal relief suggests that there continues to be uncertainty over the underlying policy. There is also the question of whether relief should be concentrated on disposals. Many would argue that businesses need most support from the tax system when they are starting up and that is where the priority should be. The rules for tax relief on investment in new businesses are notorious complex and undoubtedly act as a barrier to many people who would otherwise want to raise money in a tax efficient manner. It would be worth exploring whether a much simpler system could be developed, perhaps involving a complete tax write-off for new investments.
No doubt HMRC would be nervous that this might open up avoidance opportunities, but I think that this risk, accepting that it is a real concern, should not prevent us from indulging in some blue sky thinking. Any review will be much more effective when approached with a genuinely open mind.
May you live in interesting times
These are of course only a few of the many areas that the review could consider. In some ways the timing is good. The pandemic has taught us to think the unthinkable about the way that the tax system operates, and it seems inevitable that in a post-Covid world many of our fundamental assumptions will have to be challenged. I will follow the development of this review with real interest.
Sometimes OTS projects have started out with bold ambitions but ended up achieving only minor (though none the less welcome) tweaks to the system. My sense is that this one could be quite different: let’s wait and see.
• Andrew Hubbard is editor in chief of Taxation Magazine and also has overall responsibility for the technical content of Tolley’s tax publications.