Tue 15 Apr 2014

Separation and Capital Gains tax

Divorce and separation – there seems to be an awful lot of it about at the moment. Clearly it’s a difficult and emotional time for those involved, particularly if there are children, so it’s no surprise that little or no consideration is given in advance to the tax consequences of splitting up, and, in particular, any capital gains tax (CGT) which may be payable on a transfer of assets between the parties. However, the fact is that the timing of a separation, and the nature of the assets owned by the couple, will have an impact on the tax cost of separating.

Spouses and civil partners who live together can pass assets between each other without any chargeable gains or losses arising. For CGT purposes, a couple who are married or in a civil partnership are assumed to be living together unless they are separated under a court order, by a deed of separation, or in circumstances which are such that the separation is likely to be permanent. The no gain/no loss rule referred to above continues to apply during the tax year of separation only. After the end of the tax year of separation asset transfers will generally be treated as being made at market value, with any gain since the asset was acquired being taxable. There is therefore an advantage in separating early in a tax year, giving as much of a window as possible for passing over assets on a no gain/no loss basis.

For couples facing the application of the market value rule, whether or not CGT will be payable depends on the nature of the asset. The availability of main residence relief will mean that the transfer of an interest in the former matrimonial home will usually be exempt from CGT provided that the transfer occurs within three years of separation. Cash is also exempt. The problem areas are likely to be second homes or investment assets – for example shares or rental properties.

By way of illustration, having separated just over a year ago, Mr. and Mrs. A have finally agreed that financial matters between them are to be resolved by Mr. A transferring to Mrs. A his interests in the principal family home, and a second property owned by the couple (used by them as a holiday home). Any gain in the value of the main residence since it was acquired will be exempt from CGT by virtue of main residence relief. However, what will the position be in respect of the holiday home, which has increased in value by £100,000 since it was purchased? Effectively, Mr. A will incur a CGT liability which could be as much as £28,000 – and this will have to be financed in addition to the transfers made to Mrs. A. If a decision had been made earlier, or if Mr. and Mrs. A were in a position to agree that Mrs. A would take cash or assets with no gain instead of the holiday home, the position would have been quite different.

The lesson here is that for couples contemplating separation, advice should be taken as early as possible. At Morton Fraser our Family Law team and Private Client teams work closely together to advise clients of the tax impact consequences of their separations and financial settlements, thus avoiding unwelcome surprises further down the line.

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