The government has released law Project and an attendant guidance document, Capital Gains Tax: Separation and Divorce, detailing the changes to the rules applicable to transfers of assets between spouses and civil partners who separate. The bill will be part of the 2022-2023 finance bill. The impact of the changes will be significant for divorcing couples, giving them more time to transfer assets between them without incurring capital gains tax (CGT) charges.
Knowledge Development Lawyer Carla Ditz provides an update on the law relating to the CGT on divorce in its current state and outlines the proposed changes.
CGT on divorce – current situation
The timing of the transfer of property between spouses is critical under current law.
(i) Where property is transferred in the tax year in which the couple separates
Currently, in order for couples to transfer assets such as property, business interests and shares without gain or loss, the assets must be transferred in the tax year of separation, i.e. no later than April 5. If this objective is achieved, no CGT is due and property can be transferred between spouses and civil partners as if they continued to live together.
(ii) Where property is transferred after the tax year in which the couple separates
Once the tax year of separation is over, the spouses lose the benefit of the no gain/no loss rule and transfers are treated as normal taxable disposals for CGT purposes. that is, in the event of a transfer, the asset is deemed to be “sold” at its market value. . This may result in significant CGT liability to be paid by the transferring party (subject to any exemptions, including Private Residence Relief).
For example, if a couple separated in October 2021, provided that a transfer takes place no later than April 5, 2022, the transfer is without gain or loss and without CGT charge. The window of opportunity to transfer without gain or loss therefore narrows as you get closer to the end of the tax year.
In a few cases, the April 6 deadline comes in handy as it may encourage the couple to settle their financial affairs more quickly in the event of a divorce, but this rarely happens. More often than not, the deadline is unachievable and puts additional stress on the couple at an already turbulent time.
In most cases, the deadline is impractical, especially in complex financial settlements where negotiations are protracted or court hearings are scheduled months in advance, leaving April 6 irrelevant. In practice, transferring assets before the end of the tax year of separation is generally unrealistic and can result in a potentially large tax bill to be paid on the marital pot. This comes at a time when funds are needed to enable the parties to relocate and meet future needs, including those of children.
Changes to be introduced from April 6, 2023
As summarized in the guidance document, changes to the rules surrounding CGT will include:
- spouses or civil partners who separate to give up to three years after the year they cease to live together to make no transfer of gain or loss
- no-gain or no-loss treatment will also apply to assets that separating spouses or civil partners transfer between themselves pursuant to a formal court order
- a spouse or civil partner who retains an interest in the former marital home to have the opportunity to claim private residence relief when it is sold
- people who have transferred their interest in the former marital home to their ex-spouse or civil partner and are entitled to receive a percentage of the proceeds when that home is eventually sold, so that they can apply the same tax treatment to that proceeds when ‘it is received that applied when they transferred their original interest in the dwelling to their ex-spouse or civil partner
What do the measurements actually mean?
The political objective surrounding the new measures is to make CGT rules fairer for spouses and civil partners who are in the process of separating. Once the new rules are implemented, couples will have more time to transfer assets between them without incurring CGT fees. When this transfer is made pursuant to a court order, the couple will have unlimited time to transfer these assets. Extending the no-gain/no-loss window for separating couples will help reduce some of the financial pressure on the parties at the time of divorce.
Toby Atkinson, a partner in Stewarts’ Divorce and Family department, said: ‘The current rules surrounding CGT divorce are neither practical nor reasonable in an environment where family courts are overburdened and hearings are scheduled for months in the future. Even when couples seek to settle their finances using alternative dispute resolution methods such as mediation, arbitration or attorney-led negotiation, the April 6 date can seem contrived and an unachievable goal. The bill is a welcome measure that will direct family financial resources to where they are most needed.
The changes should take effect on disposals that will take place from April 6, 2023.
