Business Asset Disposal Relief (BADR) is also facing an uncertain future
The new Labour government has announced their first package of legislation in the King’s Speech this week with no mention of any tax rises or changes.
This is likely being saved for Rachel Reeves’ first budget as chancellor, probably to be held in October.
With manifesto promises not to raise income tax, VAT or corporation tax, the speculation is rife on what could rise to help raise money for some of the other promised projects and the one name that keeps being mentioned is Capital Gains Tax (CGT).
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Currently the lower and higher rates of income tax in England and Wales are 20% and 40% respectively with a tax-free allowance of £12,570.
CGT rates are 10% and 20% accordingly or 18% and 24% for property with a tax-free allowance of £3,000. For both taxes, the threshold for moving from lower to higher rates is £50,270.
Capital Gains Tax was first introduced in 1965 by Labour Prime Minister Harold Wilson and chancellor Jim Callaghan.
The initial aim was to deter certain types of income from avoiding tax by being classified as a capital gain.
The chancellor’s economic adviser Nicholas Kaldor made the argument that capital gains and income should be taxed at the same rate. Callaghan, being advised by the Inland Revenue, HM Treasury and the Bank of England, decided to make a different decision.
All capital gains above £1,000 (the equivalent of £16,414 today) would be taxed at 30% while the standard rate of income tax at the time was 41% and higher on annual earnings of £2,000 and above.
The system remained the same until reforms from Conservative Chancellor Nigel Lawson came, culminating in his March 1988 budget.
His first change was to remove the issue where inflation on capital gains was not removed from the tax calculation – IE if the value of an asset had risen by 20% and the rate of inflation was 10% then CGT at the time had been payable on the whole 20% gain, not the 10% gain net of inflation.
The second change Lawson made was equalising the rate of CGT and income tax. He replaced the flat 30% CGT rate with 25% for lower earners and 40% for higher earners.
The next major change took place a decade later under then Labour Chancellor Gordon Brown.
He removed the indexation allowance that was used to strip out inflation from gains arguing that it was unnecessary in a low-inflation environment. A new system called taper relief was introduced instead that encouraged investors to hold assets for longer, particularly shares in businesses, taxing them at successively lower rates depending on the length of ownership.
For higher rate taxpayers selling shares in a business the taper rate ranged from 40% or shares owned for up to a year to 10% for those held for at least ten years.
Non-business assets were taxed from 40% for the first three years of ownership down to 24% if they were held for ten or more years.
Over the following years, the maximum taper rate on shares was reduced from ten years to two which some argued was excessively generous and allowed several private equity firms to create a model based on buying assets, aggressively stripping out costs and then selling years later.
In October 2007, Prime Minister Gordon Brown and his Chancellor Alistair Darling scrapped taper relief altogether and reintroduced a flat rate of CGT for the first time since 1988.
It was set at 18%, which was below the income-tax rates for lower earners at 20% and higher earners at 40%.
Entrepreneurs Relief created
Mindful of complaints from business owners nearing retirement that they would now face paying more than twice the tax rate if they sold up, the Chancellor introduced Entrepreneurs Relief – which taxed gains of up to £1 million from business owners selling their shares at just 10%.
This remained until 2010 when a Conservative/Liberal Democrat coalition government took power with George Osborne becoming chancellor. He introduced a higher CGT rate of 28% for higher earners but offset this by substantially increasing entrepreneurs’ relief firstly to £5 million and then later to £10 million the same year.
In his final budget held in 2016, he cut CGT rates to 10% for lower earners and 20% for higher earners which was half the level of corresponding income tax rates. Capital gains made from property were still taxed at rates of 18% and 28%.
In 2020 then Chancellor Rishi Sunak cut entrepreneurs’ relief from £10 million to £1 million, maintaining the 10% tax rate. It was then renamed as Business Asset Disposal Relief (BADR).
Finally in 2024 when Prime Minister, his government decided to reduce the higher CGT rate for property sales to 24%.
The future for CGT and BADR is now on the table with various analysts and experts unsure about what decisions the new Labour government will take.
Paul Johnson, director of the Institute for Fiscal Studies (IFS) said that the decision to decouple CGT and income tax rates was “dreadful” and that the creation of entrepreneurs’ relief/BADR was “especially egregious”.
They support the restoration of indexation or a return to the pre-1998 system although they would also scrap the exemption on main residences after calculating that this costs HM Treasury £25 billion a year to maintain. This is despite few countries imposing CGT on such gains.
Others think that Chancellor Rachel Reeves might look to increase CGT; some predict that she will bring it into line with income tax while some others go further and say that depending on the underlying financial health of the economy there is a case for scrapping CGT and BADR altogether.
While the King’s Speech contained several measures that will affect business owners and directors, the more significant legislation and announcements will be carried in Labour’s first budget in September or October.
With CGT and BADR potentially on the line, directors might only have weeks to take advantage of the financial benefits available to them by closing their solvent companies sooner rather than later.
Get in touch with us today to discuss how you can take advantage of a Members Voluntary Liquidation (MVL) which is the most effective way to close a profitable business.