What is Capital Gains Tax?
When you sell an asset, whether as part of your business or in a personal capacity, it's very easy to forget that there will probably be tax consequences. Maybe you've sold some shares, or an investment property. Maybe your business has sold an office buidling or some land. Maybe you're looking at a life change and after building up your business, you'd like to sell it and do something else.
What transactions can generate a Capital Gain?
These are just a few examples of the sort of transactions which can generate a capital gain. Typically, the gain is calculated based on the difference between the money you make from selling an asset or investment and the price that you paid for it (less some costs).
The investments or assets that you sell could be property (for example, a building or block of land) but can also be shares in another company, units in a trust or a managed investment fund. An asset can also be intangible, such as contractual rights that your business has or even the goodwill of the business.
In addition, apart from selling assets, including land or buildings, Capital Gains Tax (CGT) can also be an issue if selling a part of the business, buying out a partner, making extensions to a factory or warehouse, altering your business structure (say by creating a trust and transferring the business assets into it) or receiving compensation for lost or destroyed assets.
What are the exceptions?
There are always exceptions of course, and with CGT the principal exception is if the gain is also assessable under another part of the tax law, for example, if it qualifies as ordinary income. In this situation, the CGT rules take last place. As prime examples, sales of depreciating assets and trading stock are not taxed under the CGT rules because they have their own tax regimes.
Another common exception relates to the disposal of your family home. Provided the house you're selling is your main residence – basically the house you live in on a daily basis – no CGT will arise when it's sold.
How is the Capital Gains Tax Rate calculated?
CGT is triggered by a CGT 'event'. Typically, this happens when you sell an asset but can also happen if the asset is given away, if it's destroyed or lost, or you stop being an Australian resident. CGT operates by taxing any increase in value from the time the asset was acquired or created. The capital gain is taxed in the year the asset is sold.
The amounts that are subject to tax vary, but the resulting capital gain is included with your income, and taxed at whatever marginal rate you would then pay. The amount that is added into your assessable income is known as the 'net capital gain'.
Your capital gain is worked out like this:
Using the discount method
Deduct the cost base from the sale proceeds. The cost base includes the price you paid for the asset as well as any costs incurred in buying and selling the asset and certain incidental costs. This amount is the gross capital gain
Next, take away any eligible capital losses.
Then apply any applicable discount factor. Resident individuals are entitled to a 50% discount and complying super funds a 33 1/3% discount. In both cases the asset must have been held for 12 months or more for the discount to be available. Companies are not entitled to a discount.
The resulting figure is your net capital gain.
Using the indexation method
Alternatively, if an asset was bought before September 1999, you may be able to increase the cost base by an 'indexation' factor, which adjusts the cost base so you're not paying tax on the inflation portion of the gain. If you choose to apply indexation, you can't also claim the discount; it's one or the other. In most cases, the discount method produces the more advantageous result.
Sometimes the tax law will require that the proceeds and cost base of the asset are not what was actually paid and/or received, but rather, the market value of the asset at that time. This is typically to prevent people from minimising their tax by, say, selling the asset to a relative for a low price.
Kerry sells some shares in March 2023 for $10,000. She originally acquired the shares in December 2005 for $5,000. She has brought forward capital losses of $2,000
Her gain is calculated as follows:
Gross capital gain
Less capital losses brought forward
Net capital gain
The complexity of calculating Capital Gains Tax
Calculating capital gains can often be very complex. If you're looking to sell assets and want to understand what the consequences might be, or if you've already sold and want to know what your potential tax bill is, speak to one of our experienced tax consultants. Call H&R Block on 13 23 25 or find your nearest office and book an appointment online.
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