The government has announced proposed changes to the Capital Gains Tax rules for divorcing couples. The changes are significantly more lenient than previous provisions by way of providing the divorcees much more time to transfer assets. Some new rules will also be introduced to create a fairer tax system.
This article will explain the usual Capital Gains Tax rules for transferring assets between married couples, how Capital Gains Tax currently works when divorcees transfer between each other and what the proposed changes are.
All mentions to ‘spouses’ or ‘married couples’ in this article should also be taken to be a reference to civil partners.
Capital Gains Tax for married couples
When a person transfers chargeable assets to another individual who they are connected with, to the transferor is deemed to have disposed of said asset for its market value regardless of any amounts actually received. Capital Gains Tax is then
calculated with the normal method, using the market value as the ‘sale proceeds’. It can therefore be very costly for connected individuals to pass assets around. For Capital Gains Tax purposes, married couples are considered connected.
However, although connected, married couples actually benefit from special provisions. When assets are transferred between spouses, the disposal is instead deemed to take place at a nil gain nil loss basis. What this means is that no chargeable gain arises on the disposal and, if there is no chargeable gain, then there can be no Capital Gains Tax. Therefore, spouses are free to transfer assets to each other as they wish without Capital Gains Tax bills.
Capital Gains Tax for divorced couples – current rules
Currently, the rules for Capital Gains Tax on assets transferred between divorcees are quite strict. A couple has until the end of the tax year (05 April) in which they separated to transfer assets without a CGT charge. After this date they are ‘connected’ and transfers take place at market value. Imagine a couple separates in early March, this means they have about a month to pass assets to each other at the nil gain nil loss basis. Given all the other matters that require dealing with during divorce, this can be immensely stressful and will often leave individuals with a Capital Gains Tax bill added on top to make things worse.
In addition to the above, imagine a situation in which one spouse remains in the matrimonial home, and the other leaves but retains an interest in it. In this instance, the individual that remains will receive full principle private residence (PPR) relief for the periods they stayed there (more here). However, the spouse that left the house is not eligible for relief in the period that they were not living there. If the house (or the interest in the house) is sold within nine months of the spouse moving out, this is not an issue thanks to the final nine months of deemed occupancy rule within PPR relief.
If the house is sold after this time, then the spouse may indeed have Capital Gains Tax to pay. So when a spouse leaves the home due to the divorce, they could be hit with a Capital Gains Tax bill that the other is not subject to.
The proposed changes
First, the nil gain nil loss period is to extend for three years after the year they cease to live together. This is a significant extension that will give divorcees much more time to organise their assets amongst themselves. In addition to the extension, the nil gain nil loss is to apply to assets transferred between spouses as part of a formal divorce agreement.
Where a spouse has left the matrimonial home but retains an interest in it, they now have the option to claim PPR relief on the period that they were not living there as a consequence of the divorce (note here that it is an option as, if the spouse purchase and occupied another main residence they cannot claim relief in respect of more than one property).
And finally, where a spouse transfers an interest in the matrimonial home to their ex-spouse and it is agreed that they are entitled to a portion of the proceeds on sale, they can now apply the same tax treatment to those proceeds that were allowed when they initially transferred an interest in said house to the spouse (i.e. nil gain nil loss).
The above changes are to apply to disposals that occur on or after 06 April 2023. The key word here is “disposals”, meaning that those who separate in the 2022/23 tax year will have until 05 April 2023 to make transfers and the additional three year extension. The changes will also apply to those that divorced earlier if they have not already transferred their assets. However, they will have to wait until 06 April 2023, which may not be ideal for them.
The furthest back this takes it is to separation in the 2019/20 tax year, though they effectively have one day (on 06 April 2023) to make the transfer happen if they did separate in that year. All of this is to say that if you have gone through a divorce between 2019/20 and 2021/22 tax years (i.e. between 06 April 2019 and 05 April 2022) and are looking to transfer assets, it may be best to wait until 06 April 2023.
The revisions mentioned above are very welcome and offer those going through a stressful period of their lives the invaluable resource of extra time. The added exceptions given to those that leave the former matrimonial home demonstrate the government’s willingness to improve the fairness of the tax system by giving said spouse the option to claim PPR relief on a property they are not occupying due to divorce – this will level the playing field and ensure that the leaving spouse is in the same tax position that they were in prior to moving out. The usual requirements for reporting a disposal to HMRC remains.
As with anything to do with asset transfer, it is recommended that a tax advisor is sought ahead of the exchange to ensure that you are acting compliantly and are not hit with tax charges you did not expect.