Taxation CGT Notes PDF

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Taxation - Capital Gains Tax notes...

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Taxation: Capital Gains Tax notes Chapter 18 – Foundations of Taxation Law Capital Gains Tax (CGT)     

CGT was introduced by the labor government on 20 September 1985 Before this was introduced gains that were not of an income nature generally escaped tax unless one of a limited number of special statutory income provisions applied Thus the objective of CGT – to tax all capital gains subject to exemptions CGT examples: disposal of property, sale of shares CGT is not a separate tax – capital gains are subject to income tax

Net capital gain  

Section 102-5 includes a ‘net capital gain’ for an income year in a taxpayer’s assessable income steps to derive net capital gain to be included in assessable income

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Net capital loss and timing issues    

Step 2 of 5 step process net capital loss for an income year = the taxpayer’s capital losses exceed their capital gains Taxpayers are not entitled to deductions for ‘net capital losses’ Net capital losses can be carried forward to reduce (offset) net capital gains in future years

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CGT discount rules only apply to assets held for at least 12 months Capital losses have a tax effect when they offset capital gains Can apply deductions against net capital gain

Timing issues  As the CGT discount rules only apply to capital gains made on CGT assets that have been held for at least 12 months, taxpayers should consider deferring the disposal of assets that are liable to generate gains until they have held them for this period  Capital losses need to be incurred in the year in which capital gains are made or in earlier income years to be applied against those capital gains  If capital gains in an income year against which capital losses can be offset, then capital losses must be carried forward into future years as a net capital loss  Net capital loss can only be utilized when capital gains are made  If no capital gains are made in the future, the net capital loss is wasted  Capital losses cannot be carried back into previous income years

Example – calculation of Net Capital Gain  

Capital gains of $20,000, of which $10,000 discountable (D) and $10,000 non-discountable (ND) Current year capital losses of $5,000, prior year losses of $3,000

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The first step in calculating a taxpayer’s net capital gain or net capital loss for an income year is to work out the individual capital gains and capital losses and set these amounts off against each other

CGT events   

CGT events capture capital gains and losses that can arise in a variety of situations. Each event describes how the capital gain or loss arises, how to calculate the gain or loss and identifies specific exclusions. Over 50 different kinds of CGT events which fall within 12 goups (A1-L8):

CGT Event A1 – Disposal of CGT asset – s 104-10    

This is the most common CGT event Arises where a taxpayer disposes of a ‘CGT asset’ (GCT asset – any form of property e.g. land) Timing – when taxpayer enters into the contract for disposal Amounts paid to acquire the asset form the cost base or reduced cost base of the asset, whereas amounts received for disposing (e.g. selling) an asset are included in the capital proceeds

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Capital gain = capital proceeds from disposal > asset’s cost base Capital loss = capital proceeds from disposal < asset’s cost base

What is a CGT asset?  

Defined in s 108-5(1) as ‘any kind of property’ or ‘a legal or equitable right that is not property’ Common examples: - Land and buildings - Shares/ options - Goodwill in a business - Partnership interest - Contractual right

CGT exemptions & special rules 

Exemptions: - Pre-85 assets – CGT doesn’t have effect for assets acquired before introduction of CGT on 20 Sept 1985 - Motor vehicles - Main residence – Capital gain/loss relating to a taxpayer’s main home is disregarded - Personal use and collectables – see above - Depreciating assets - Trading stock – trading stock is a revenue asset and it is therefore taxed under the general tax rules - Miscellaneous

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Cost base and reduced cost base  

The cost base of a CGT asset is used to calculate a capital gain from certain CGT events The reduced cost base of a CGT asset is used to calculate a capital loss from certain CGT events

Elements of the cost base 1. 2. 3. 4. 5. 

Money paid or market value of any property given to acquire the asset Incidental costs of acquisition/disposal Ownership costs (where no deduction claimed) Capital improvements Capital expenditure to establish, preserve or defend title to an asset

Proceeds – Cost Base = Capital Gain/Loss

Reduced cost base • •

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Reduced cost base used to calculate a capital loss from certain CGT events Reduced cost base has 5 elements: - 1st, 2nd, 4th and 5th elements are same as for cost base - 3rd element is different: amount that is assessable as a result of a balancing adjustment in relation to the asset No indexation of elements

Amounts excluded from cost/reduced cost base: 1. 2. 3. 

Expenditure already deducted or recouped Specific expenditure: Entertainment, bribes, penalties and illegal activities Net ITCs

Market value substitution rule - This rule provides that the first element of the cost base and reduced cost base of a CGT asset acquired from another entity is its market value at the time of acquisition if:  Taxpayer did not spend anything to acquire it (e.g. asset received as a gift)  Expenditure incurred to acquire it cannot be valued; or  The taxpayer did not deal at arms length with the other entity in connection with the acquisition

CGT Asset: Capital proceeds   

Amount received on sale/transfer/disposal of CGT asset Does not include any GST charged where the CGT event is also a 'taxable supply' General rule for calculating capital proceeds is modified by: - Market value substitution rule - Apportionment rule - Non-receipt rule - Repayment rule - Assumption of liability rule - Look-through earnout right rule

CGT Method Summary

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Indexation of the cost base      

Indexation – special cost base rules inserted into the legislation to apply to assets held for more than 12 months. These rules make allowances for inflation when calculating capital gains For assets acquired before 21/9/99, may chose to index elements of a cost base (other than ownership costs) Increase cost base by indexation factor, calculated to 3 decimal places Index number for each quarter is the index number for the last month in that quarter, index frozen at 30/9/99 The reduced cost base of an asset is not indexed Use CPI index numbers given Indexation factor

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Index (for the quarter) CGT event happens Index (for the quarter) expenditure incurred

Discount Method     

Discount capital gains rules were introduced on 21 September 1999, when the indexation rules were frozen Object: to provide a simpler method for taking inflation into account in respect of capital gains made on CGT assets held for at least 12 months Discount rules do not apply if taxpayer has chosen to index the cost base of an asset Discount capital gain – a gain that satisfies the requirements under s 115-5 -> Discount capital gain satisfies the following requirements: - Capital gain made by an individual, superannuation entity or trust - Capital gain resulted from a CGT event after 21/9/1999

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Capital gain calculated without taking indexation into account, and Capital gain from a CGT asset acquired >12 months ago

Discount percentages: - Individuals and trusts = 50% - Complying superannuation entities = 33.33% No discount for companies

Capital losses      

Reduced cost base is used to calculate a capital loss Reduced Cost Base = Cost Base – 3rd element adj. No discount or indexing applicable to losses Operating costs excluded from cost base when a loss is incurred Capital losses can only be offset against capital gains Can carry forward capital losses to offset against future capital gains

Small business concessions  

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Applies to CGT SBEs (aggregate turnover under $2m) and certain other taxpayers To qualify, SBE must satisfy the following test (conditions): - CGT event and capital gain condition; and - Taxpayer condition (one of four); and - Active asset condition Additional conditions apply if the CGT asset is a share in a company or an interest in a trust Taxpayer must be a CGT concession stakeholder (ie a significant individual or their spouse) CGT concession stakeholders must have a small business percentage in the taxpayer of at least 90% Concessions: - 15-year exemption - 50% reduction concession – reduction of 50% after CGT discount - Retirement concession Small business roll-over concession

Main residence exemption  

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Disregards a capital gain or loss relating to an ownership interest in a dwelling that is the taxpayer’s main residence Special rules where: - Moving into a dwelling - Only applies to one title - Spouses with separate main residences - Overlap when changing main residences - Absences - Building or renovating dwelling - Partial exemption Main residence throughout ownership period Main residence for part of the ownership period

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Australian and foreign residents   

General rule – CGT applies more broadly to Australian tax residents Australian tax residents subject to CGT on capital gains and losses on any asset - Specific exemptions Foreign tax residents and temporary residents only subject to CGT on taxable Australian property

Deceased estates         

Capital gains or losses made on CGT assets owned just before death are generally disregarded CGT asset is generally deemed to be acquired on the date of the deceased’s death for: - Its market value (pre-CGT assets) - Its cost base or reduced cost base (post-CGT assets) Special rules apply in certain cases, including in respect of the main residence and assets that pass to taxexempt entities When a person dies, their assets vest in their legal personal representative (LPR) - The LPR pays the debts of the deceased and distributes the assets to beneficiaries Capital gains or losses made on CGT assets owned just before death are generally disregarded. The LPR must sell assets to pay the any debts and distribute the remainder Where the assets were acquired pre-20 Sep 1985, the deemed value at which the LPR or beneficiary acquires the assets is the market value at the date of death. Where the assets were acquired post-20 Sep 1985, the deemed value at which the LPR or beneficiary acquires the assets is the deceased’s cost base Note: that if the LPR sells an asset, he/she may incur a capital gain or loss in their capacity as LPR. Also note a special rule regarding a dwelling used by the deceased as their main residence. - This particular asset is deemed to be acquired by the LPR or beneficiary at market value as at the date of death.

CGT roll-overs   

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A roll over means that a capital gain or loss is deferred until some future CGT event. There are two situations where roll-over applies: same asset roll-overs and replacement asset roll-overs Same asset roll-overs (transfer of asset from one taxpayer to another) - CGT event does not generate CGT liability for transferor - CGT attributes of asset acquired by transferee - For example:  SPs or partnerships transferring their assets to companies in which they own all the shares  assets transferred on marriage breakdowns Replacement asset roll-overs (replacing one asset with another) - CGT event does not generate CGT liability - CGT attributes of original asset applies to the new asset - For example:  Loss, destruction or compulsory acquisition of an asset  Exchange of shares, units in trusts, rights or options are exchanged for new shares, units or options

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