changes to taper relief since april 2002

This important relief was introduced in April 1998, but it has changed considerably since then, and these notes describe the current state of play.

Individuals now need to reconsider their tax planning strategies. The maximum tax applicable on a disposal of a business asset after 2 years' ownership is only 10%, so it is important to ensure that the various criteria are met in order to take maximum advantage of this valuable relief. It is particularly important to ensure that chargeable assets qualify as business assets, and - in some cases - this can be achieved quite easily.

When setting up a new business, careful consideration should be given to ensure that the most tax-efficient structure is adopted in the circumstances at the outset.

The availability of taper relief will be an important aspect to be taken into account.

Who can claim?

Taper relief applies to individuals. The rules are modified so that trustees can also claim taper relief in most, but not all, circumstances.

It is important to note, however, that taper relief cannot be claimed in respect of companies' capital gains, which continue to be reduced by the indexation allowance.

Business asset v non-business asset

The relief is based on a simple concept. The greater the number of years that a taxpayer has owned an asset the lower the effective tax rate should be. Only complete years of ownership after 5 April 1998 count for this purpose. However there is a critical distinction between a "business asset" and a "non-business asset" the meanings of which are explained later.

Chargeable gains in respect of assets attract a taper relief reduction as follows:

Disposals After 5 April 2002

It can be seen that:

• a non-business asset attracts taper relief at the rate of 5%, but not until three complete years of ownership have been achieved and only for a maximum period of 8 years; while,
• a business asset attracts taper relief on an entirely different time scale with the maximum of 75% being achieved after only two years of ownership. At the higher rate of tax, 40%, gains are therefore taxed at an effective rate of 10% (25% of the gain x 40%)

There is a special rule for non-business assets owned prior to Budget Day 1998 whereby, effectively, a bonus year of ownership will be taken into account by deeming the period 17 March 1998 to 5 April 1998 to be the first complete year of ownership.

The percentage rates for non-business assets have not changed since introduction, but the rules for business assets were relaxed from 6 April 2000, before being relaxed further in 2002.

Meaning of 'business asset'

Generally speaking since 6 April 2000 there have been two categories of business asset.

The first category comprises:

• shares or securities in unquoted trading companies (but excluding companies under the control of a quoted company),
• shares or securities in unquoted holding companies of certain trading groups,
• shares or securities in any quoted trading company in which the individual is an employee (part-time or full-time),
• shares or securities in any quoted trading company in which the (non-working) shareholder can exercise at least 5% of the voting rights

Until 6 April 2000, the definition of a "business asset" did not cover shares in non-trading companies. However, the Finance Act 2001 removed this restriction in certain circumstances - with retrospective effect to 6 April 2000. Taper Relief at the business assets rate now extends to shares held by an employee in a non-trading company which employs him or her; however, the employee must not hold more than 10% of the company's issued share capital.

The bulk of the second category relates to chargeable assets, such as land and buildings or goodwill, owned and used as follows:

1. an asset owned by a sole trader and used in his trade, or
2. an asset owned by an individual but used in the trade of a partnership of which he or she is a member (including a share of any chargeable assets owned by the partnership and used in its trade), or
3. an asset owned by an individual but used by an unquoted trading company in its trade. (This rule is also extended to situations where an asset is provided for use by subsidiaries of a trading group.)

NB It is important to note that in the case of 3. above, it is not necessary for the asset owner to also own any shares in the unquoted company or work in the company's business. A landlord with no connection to an unquoted company will nevertheless be in a position to claim business asset taper relief for periods after 5 April 2000. From 6 April 2004, a business property which is let to a sole trader or a partnership also qualifies.

Any asset on which a chargeable gain is realised not conforming to these definitions is a 'non-business asset'

Mixed use of assets

Special rules operate where an asset other than shares is used only partly for a qualifying purpose. A further rule operates where an asset has been used at different times for qualifying and non-qualifying purposes post 5 April 1998. In both instances the gain on sale is apportioned and taper relief restricted accordingly.

A similar approach will be adopted where the owner of shares is unable to demonstrate that the business asset conditions were met throughout the post 5 April 1998 period of ownership. Here, it will be necessary to apportion the gain and apply the higher level of taper relief only to the proportion of the gain attributable to the time when the business asset conditions were met.

The apportionment rules apply in particular to assets that failed to be regarded as business assets under the definition of business assets applying from 6 April 1998 to 5 April 2000 (commonly shareholders with a holding of less than 25% or employee shareholders with less than 5%) and can curtail the level of relief significantly. In these circumstances, it may be desirable to arrange for a disposal and reacquisition so that full relief is secured after another two years.

Forfeiting relief

The most common circumstance where taper relief otherwise available may be lost is where both taper relief and another capital gains tax relief operate in relation to the same transaction. Examples are hold-over relief (which broadly relates to deemed gains on assets given away to a family member or into a trust) and roll-over relief (which allows a trader to postpone assessment of a gain when a business asset is sold and replaced). In such situations, the taxpayer must carefully evaluate the choices open to him or her to ensure the optimum tax position is achieved.

The way in which a business is currently structured may also militate against obtaining maximum taper relief when relevant assets are sold. The following example demonstrates one particular situation that arises from time to time.

Fred owns a business property which is empty. Two companies are interested in becoming tenants. One is a 'mutual' building society, the other is a quoted bank. The property will qualify for the higher level of taper relief only if it is let to the 'unquoted' building society.

The anti-avoidance rules

There are rules intended to prevent certain exploitation of the taper relief provisions and which may operate in situations where tax mitigation was not a key consideration. The main danger here relates to shares held in close companies, broadly, those companies under the control of five or fewer persons. The following example demonstrates the possible impact that one of the anti-avoidance measures could have on innocent taxpayers.

Example

Fred and Freda own 50% each of the issued share capital of XYZ Ltd, a trading company, which they have been trying to sell for some time in order to retire. After initially trying to sell the company, they eventually agree that the company will sell the business for cash.

The company receives the cash and places it on deposit. The intention is to wind up the company in due course, but they accept that there may be considerable delay before the company's surplus is distributed to them - for instance, it will clearly take time to agree the company's tax liabilities with the HMRC.

The HMRC may argue that the shares no longer qualify for "business assets" status from the time when the business was sold. This could have a significant impact on the amount of Taper Relief available to Fred and Freda when their shares disposal takes place on the liquidation of the company in due course.

Planning

Simple tax planning steps, such as delaying the sale of an asset until another year's ownership has been achieved, are not caught by the anti-avoidance provisions. However, clients and their solicitors should note that, for taper relief purposes, the date of disposal is the date that an unconditional contract comes into existence, not the date that completion of a sale takes place.

For example, someone exchanging contracts shortly before the end of the tax year, where completion takes place in the following year, will not gain extra taper relief, the completion date being irrelevant for this purpose. However, delaying the contract date until the following tax year might well result in another year's taper relief as well as delaying the date on which tax becomes payable.

Of course, the commercial risks of delaying any contract must be of prime consideration. In addition, the end of the tax year is only important in relation to assets owned on 16 March 1998. For assets acquired subsequently the actual period of ownership must be measured, i.e. by reference to the anniversary of the date of contract of the purchase.

It should also be noted that there is a possible danger that the HMRC will invoke the anti-avoidance rules in Section 703 Taxes Act 1988 (transactions in securities) in situations where a shareholder ensures that a company pursues a low-dividend policy and he (or she) ultimately takes advantage of the effective 10% Capital Gains Tax rate on selling the shares or on liquidation.

Disclaimer

These notes are not intended to be exhaustive and should not be regarded as such. Neither do these notes offer specific advice. They are merely an outline of the subject matter. 

No liability will be accepted in respect of action taken or refrained from as a result of information given herein. Specific professional advice should always be obtained.

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