Capital Gains Tax rule change for divorcing couples

Last year, the Office of Tax Simplification recommended that the capital gains tax (CGT) rules on divorce should be relaxed. 

The Government has acknowledged the need for change and draft legislation published in the Finance Bill 2022-23 introduces new rules in respect of disposals on or after 6 April 2023 for spouses and civil partners who are in the process of separating and are no longer living together.

Current rules

Currently, couples who are married or in a civil partnership are able to transfer assets between each other on a nil gain/nil loss basis. This in effect means that the acquiring spouse/civil partner acquires the asset at the disposing spouse/civil partner’s original base cost and no CGT is paid by the transferring spouse/civil partner at the time of transfer.

When the marriage breaks down and the couple separates, the above nil gain/nil loss rule only applies in the year of separation, i.e. until the following 5 April. In reality this leaves very little time for a separating couple to deal with the emotional and practical consequences of the relationship breakdown and to implement any agreement as to the sharing of assets before a tax liability occurs. It also creates inequalities for those couples who separate close to the end of the tax year who are more likely to have to pay CGT than those who separate at the start of a tax year.

After the tax year of separation the couple are then connected for capital gains tax until their divorce is finalised. Therefore any transfer of assets after the year of separation is deemed to be at the market value, this can (and frequently does) then create a gain for the transferring spouse/civil partner, regardless of whether they actually receive a financial gain from the transfer. Under the current rules the transferring spouse will have to find cash to pay the CGT liability within 60 days of the transfer.

At the moment, the principle private residence relief (PRR) can be extended past 9 months, where the spouse or civil partner who has left the marital home transfers their share in the home to the spouse who continues to reside there where the conditions of the legislation are met, but not when the property is sold.

Proposed Legislation

From 6 April 2023, there are four proposed rule changes.

• Divorcing couples will now have up to three tax years from the year in which they have separated to transfer assets at a nil gain/nil loss basis. This will end earlier if they formally divorce, their marriage or civil partnership is dissolved or annulled, or they separate as part of a separation order before the end of the three years.
• The period of three years can be extended, indefinitely, where the transfer is made part of a formal divorce/dissolution agreement.
• PPR is to be extended further to the rule above, where an interest in the marital home is kept but is sold and not just transferred to the spouse who continues to reside there.
• Where one spouse/civil partner transfers their share in the marital home to the other, but under an agreement or order is entitled to receive a share of the profit on the eventual disposal of the property.  PPR is available to be extended in the same proportion that the relief applied on the original disposal to the former spouse.

The changes will make the CGT rules fairer for spouses and civil partners who are separating. The rules allow divorcing couples to take more time when deciding how to split their assets without the worries over the potential CGT charges.

Furthermore, it will reduce the financial burden for couples at a time when there is already a significant demand upon liquid assets.

The changes will also mean that a spouse or civil partner who retains an interest in the former family home will not be unfairly penalised if the other spouse remains in the property for a number of years post-divorce, making this a more affordable option in circumstances where the retention of the family home in joint names is the only option

In the context of increasing delays in the Family Courts and a lengthening of the divorce process under the new No Fault divorce legislation these proposed changes are a sensible and practical measure which will be welcomed by family lawyers and their clients alike.

It should be noted that these rules will only assist couples who have been married or in a civil partnership, as couples who have not been married or in a civil partnership are unable to transfer assets under the nil gain/nil loss rules.

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