Rachel Lacey explains how a simple tax hack could protect your wealth from the taxman.
On 6 April, the annual exempt amount for capital gains tax (CGT) will be cut from £12,300 to £6,000. It will then be cut again to just £3,000 in April 2024.
The reduction to the CGT allowance means many investors will start paying capital gains tax for the first time; but steps taken now mean some could reduce the amount they need to pay, or mitigate their CGT bill altogether.
How CGT is charged
To understand how you can (legally) avoid paying CGT, it is important to recognise when it will be charged.
CGT can potentially be charged when you sell or get rid of an asset. It’s not charged on the total value of the asset you’re selling, only the gain that you have made since you acquired it.
If your gains for the tax year exceed the annual exempt amount (the official name for the CGT allowance), CGT will be charged.
Breakout: capital gains tax rates 2022-23 and 2023-24:
Basic-rate taxpayers*: 10% (or 18% on property)
Higher-rate taxpayers: 20% (or 28% on property)
*To pay the lower rate, you still need to be within the basic-rate tax bracket, after the gain has been factored into your income for the year.
The tax hack to beat CGT
One way to beat CGT is to regularly realise gains on investments such as funds and shares, which can be sold off in chunks. By ensuring that the gains realised are below the allowance, it is possible to keep CGT at bay.
You cannot buy back the investments within the next 30 days, but you could reinvest in similar investments.
However, an even better hack, that enables you to realise your gains and buy them back without waiting 30 days, is to take advantage of Bed and ISA rules.
This allows you to sell your investments – and realise a capital gain – before immediately buying them back within your ISA.
So long as the gain is below the annual exempt amount, no CGT will be payable.
You just need to be mindful that the transfer will count towards your ISA allowance for the year, which is currently £20,000.
Reap the benefits over time
In addition to the mitigation of a tax bill in the current tax year, the real boon of Bed & ISA is the fact that from there on in, that money is sheltered from tax. There won’t be any tax to pay while that money grows, or when you make withdrawals.
You cannot pay more than the annual allowance into your ISA in any one tax year. However, if you’ve a lot of money invested in an ordinary trading account, you can move more over each year, to gradually shelter more of your wealth from tax over time.
Over the years, investing in an ISA rather than a general trading account can make a significant difference to your overall return.
Take an investor that pays £20,000 a year into a general trading account for 10 years. Assuming it achieves a return of 5% each year, the pot would be worth approximately £296,714. But, without any tax planning, the tax on the £76,714 gain would be £12,883 for a higher-rate taxpayer, and that’s using the current £12,300 allowance. The tax bill would be even higher after the upcoming reductions.
- The simple maths that can make you an ISA millionaire
- Minimum private pension age could be rising to 58
The ability to take an income tax-free from an ISA can be a significant perk too, and if you build up a big enough pot, can complement a pension (where income is taxable) and add real flexibility to your retirement income planning.
If you’ve got a CGT liability on the horizon, it pays to act now, to ensure you get the benefit of the current £12,300 allowance, before it’s cut on 6 April.
- Seven tax tricks to reduce your tax return bill
- Thousands of Brits could be breaking the law after CGT changes
Although a Bed & ISA can be completed in a few days, it’s best not to leave it until the last minute, as it may take longer in the run up to the end of the tax year.
The Bed & ISA deadline for ii customers is 4.30pm on Friday 31 March 2023.
How to complete a Bed & ISA
It should be pretty easy to set up a Bed & ISA if you have a trading account and an ISA on the same investment platform.
For ii investors, there’s a three-step process:
- Log on to your trading account and choose Bed & ISA in the cash and transfers menu
- Check your outstanding ISA allowance for the year and choose the investments you want to move.
- Leave the rest to ii, we’ll let you know once the transfer has completed.
Isn’t dividend tax going up too?
It’s not just the CGT allowance that’s being reduced. From 5 April, the tax-free allowance for dividends will fall too from a current £2,000 a year to £1,000 before being halved again to £500 in April 2024.
However, again, no dividend tax will be charged on investments held within the ISA wrapper – another reason to consider a Bed & ISA with your taxable investments.
Breakout: dividend tax rates in 2022-23 and 2023-24
- Basic-rate taxpayer: 8.75%
- Higher-rate taxpayer: 33.75%
- Additional rate taxpayer: 39.35%
Other ways to pay less tax
The best way to pay less tax is to invest as much of your wealth as you can in wrappers such as ISAs and pensions.
However, if you are facing an imminent tax bill on your investments, there are other ways to mitigate, or at least reduce it.
- If a Bed & ISA isn’t possible (for example, you’ve used your ISA allowance) you should still consider realising gains below the CGT allowance.
- If you are married or in a civil partnership, you can transfer assets to your spouse tax-free.
- If CGT can’t be avoided altogether, but your spouse pays a lower rate of tax than you, it’s possible to reduce the rate that is charged by transferring the asset to them.
- New romance? How to protect and build your wealth together
These articles are provided for information purposes only. Occasionally, an opinion about whether to buy or sell a specific investment may be provided by third parties. The content is not intended to be a personal recommendation to buy or sell any financial instrument or product, or to adopt any investment strategy as it is not provided based on an assessment of your investing knowledge and experience, your financial situation or your investment objectives. The value of your investments, and the income derived from them, may go down as well as up. You may not get back all the money that you invest. The investments referred to in this article may not be suitable for all investors, and if in doubt, an investor should seek advice from a qualified investment adviser.
Full performance can be found on the company or index summary page on the interactive investor website. Simply click on the company's or index name highlighted in the article.
Peter Spiller: ‘embarrassing’ discount will close soon and reward long-term investors