What's happened?
Alistair Darling has announced a major overhaul of the capital-gains-tax (CGT) regime. The rate of tax on profits from asset sales by individuals and trusts will be a flat 18% from 6 April 2008 whereas the current system has rates of up to 40%, depending on your circumstances. He also wants to scrap the indexation allowance, introduced in 1982, which means tax is only due on gains above the rate of inflation; and also taper relief, a Gordon Brown initiative from 1998, which reduces tax paid by those who hold assets for lengthy periods. About the only thing that survived what the Financial Times called "the biggest change to taxation since the late 1990s" is the annual amount of profit exempt from this tax, currently £9,200.
Why has he done it?
The Government has been under pressure to address criticisms that private-equity partners "pay less tax than a cleaning lady" as the chairman of SVG Capital, Nicholas Ferguson put it. By treating profits arising from a private-equity fund as a capital gain, rather than as income, and claiming the maximum taper relief on investments held for more than two years, many private-equity entrepreneurs enjoyed an effective tax rate of 10%. Although private-equity profits ("carried interest") would still be taxed as capital gains rather than income, the abolition of taper relief and the new flat rate mean that a 10% rate becomes 18% for those domiciled here.
So do these measures mainly hit private-equity firms?
No the impact is wider. The FT likened the proposals to "using a howitzer to hunt rabbits". From April, anyone who sells a "chargeable asset", whether personal or business, will pay tax on any gain above their CGT allowance at 18%. This simplifies and potentially reduces CGT for all investors, not just on shares, but also second homes (your main home is exempt from CGT). The abolition of both indexation allowance and taper relief also removes concessions for long-term investors. The taper-relief rules, for example, reduced the tax on the sale of non-business assets, such as shares, by up to 60% provided they had been held for a full ten years. This would, though, still only mean a minimum rate of 24% for higher-rate taxpayers (12% for basic-rate taxpayers). Had they been held for even longer, say 20 years, the tax bill could be cut further still by applying the older indexation allowance on top, which removes any gains due to inflation arising between the date of purchase any date after March 1982 and April 1998 when taper relief took over.
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The general reaction from the press, small business owners, some unions and even, says the BBC, three of the Dragons' Den judges, has been vitriolic. "What was he thinking?" asks Ruth Sutherland in The Observer, pointing to the beneficial impact on buy-to-let property owners and potentially detrimental one on 1.7 million employees who currently enjoy taper relief on save-as-you-earn share schemes. Meanwhile, the FT pointed to the difficulties facing farmers who have held land for long periods and face a "double whammy" in a loss of indexation allowances and a CGT rate of 18%, rather than 10%, on sales after 6 April 2008.
So has Alistair Darling got it all wrong?
No. Thanks to years of tinkering by successive Chancellors, including Gordon Brown, the tax rules had become hideously complicated, meaning the average individual needed the help of an expert to stand a chance of getting the figures right. The changes make CGT much simpler an approach that might benefit other unnecessarily complicated UK taxes. Also by ending the favourable, and what the FT calls "illogical", treatment of assets held long term, the Chancellor has signalled "that Labour no longer cares if your gains are short term and speculative". This seems right an investor prepared to take short-term risks will no longer be penalised by the tax rules.
What happens next?
Opponents of the reforms hope to block the changes before next April. The list of organisations seeking face-to-face talks with Gordon Brown continues to grow. The CBI, the British Chamber of Commerce, the Federation of Small Businesses, the Institute of Directors and the Association of British Insurers are all planning meetings, bypassing Mr Darling. A 4,500-name petition opposing the changes has materialised on the Downing Street website and The Times reports that the Conservatives will try to defeat the proposals in the House of Commons. All in all, the Chancellor's reforms are some way from being a done deal.
Winners tax rate potentially cut from 40% to 18%
UK private shareholders: tax simplified and cut to 18%, a reduction that will outweigh lost allowances for most people.
Second "buy-to-let" homeowners: same position.
Trustees and executors: will enjoy the same simplification and rate reduction as individuals.
Losers tax rate potentially increased from 10% to 18%
UK domiciled private equity partners now taxed at 18%.
Investors in unquoted or Aim shares no longer qualify for business asset reliefs.
Employees selling significant share holding in employer SAYE have enjoyed a 10% tax rate on two-year-holdings scheme.
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