Written by Ray Coman
Household valuables and private collections may rise substantially in value since the time they come into a person's possession. While there is no tax to pay until an item is disposed of, it is quite possible that any eventual gains will be open to tax. Fine art, antiques, jewellery, watches, guns, wine and other collectibles are examples of tangible, moveable property, which in tax regulation are described as chattels. In this article, the rules of capital gains tax and inheritance tax as applied to chattels are outlined and options for reducing capital taxes are briefly discussed.
A chattel which is wasting will be exempt from capital gains tax, and any losses on it would not be allowable. An asset is considered to be wasting if it has a useful life of less than fifty years. Useful life is determined at the date of acquisition, having regard for the purpose about which it was obtained.
Many personal belongings, which are simply used up and discarded, would be considered wasting chattels. As a consequence it is not possible to create a capital loss for tax purposes by disposing of many chattels held for household use. Other the other hand, certain items which may appreciate in value may also be wasting chattels and therefore avoid capital gains tax, such as racehorses, fine wines and whiskeys.
Plant and machinery is always treated as having a predictable life of less than 50 years and so will always be a wasting asset. As a result, even machinery which is prone to increase in value will be exempt from capital gains tax. Under HMRC interpretation clocks, watches, trains, boats and yachts are all classed as machinery. All motor vehicles, including classic cars, are exempt from capital gains tax.
The exemption from capital gains tax for plant and machinery does not however extend to plant and machinery for business use. In many cases, capital allowances would have been claimed on plant used in a business. There would therefore be two potential tax liabilities arising from the sale of business machinery at a gain; the first as a balancing charge, and the second in the form tax on the chargeable gain. Any tax allowable loss arsing on the sale of business plant and machinery is reduced to take account of relief given by capital allowances. The regime explained below for non-wasting chattels also applies to business plant and machinery.
For chattels which are not wasting, namely with an expected life of over fifty years, the following rules would apply.
- Where bought and sold for less than £6,000, any gain will be exempt and any loss would not be allowable.
- Where sold at a loss and costing more than £6,000, disposal proceeds are deemed to be £6,000 less any cost of sale. For chattels, losses which are allowed for offset against capital gains could be heavily restricted.
- Where sold for more than £6,000 and bought for less than £6,000, the gain is calculated in the normal way, but cannot exceed the maximum chargeable gain. This maximum amount is calculated as 5/3rds of the gross proceeds less £6,000. In effect, the above rule can provide certain tax relief for any assets sold for less than £15,000.
Where an item that forms part of a set is disposed of to the same person, the above rules are applied to the value of the entire set, rather than to its individual parts. In this case, the same person would include a group of people acting together. A set refers to a group of items which are similar and complimentary and where the total value is greater than the sum value of its parts.
Chattels exempt from capital gains tax
The following chattels are exempt from capital gains tax:
- Motor vehicles are always exempt from capital gains tax, even if used for business purposes
- Decorations for valour are exempt, unless purchased.
- Any gains in foreign currency for personal use would not be taxable.
Events on which a taxable event may occur
A charge to capital gain tax may arise whenever an asset is disposed of. In calculating the gain on loss or theft of an item, any insurance compensation is the amount of the deemed proceeds. Where an item is gifted, or sold at undervalue to a connected person, its market value is used to determine any capital gains arising. Market value is also used to calculate any gain when an asset is appointed from a trust.
The value of an asset for inheritance purposes is calculated on the loss to donor principal. The amount by which an estate has been depleted by a transfer is the amount chargeable to inheritance tax. Therefore, where items which form part of a set are transferred to the same person, or group of people acting together, the valuation of the gift for IHT purposes is the value of the set, rather than the stand alone value of each item. The loss to donor principle applies to any related property, which is broadly property held by the donor's spouse.
Apart from their enjoyment value, art, antiques and other valuables can comprise a significant part of personal wealth. On realising this wealth, capital gains tax and inheritance tax can be the largest deduction from proceeds.
Each year a UK resident individual is entitled to an annual allowance (of £10,600 for 2012-13.) Taxable gains could thereby be reduced by disposing of assets in separate tax years.
Transfers between spouses are tax free, and each spouse is entitled to an annual allowance. Therefore it is better to hold assets in joint names prior to disposal. An alternative, known as bed and 'spousing' is to sell an asset and then have it bought back by your spouse. This effectively increases the cost for calculating any future capital gains on which your spouse may be liable.
Capital losses are carried forward and set against future capital gains, but cannot be carried back, except losses made in the year of death. Therefore, loss making assets should be sold before assets on which gains are expected.
Gains are taxed less where a person's income is lower. Tax would be saved by disposing of an asset in a year when income is lower so that capital gains tax would apply at 18% rather than at 28%. Similarly, where a spouse is subject to a lower rate of capital gains tax, tax could be saved through the spousal transfer of an asset prior to eventual disposal.
Other vehicles, such as trusts, LLPS and companies may be effective in mitigating tax exposure, depending on the circumstance of the taxpayer.
If the asset is not located in the UK and the tax payer is not resident in the UK for tax purposes then any disposal would be outside the scope of UK capital gains tax.
Tax incentives for transfers to a public institution
Where an asset is considered to be outstanding it may be eligible for conditional exemption from inheritance tax and capital gains tax. The exemption is on the condition of the work of art remaining in the UK, being properly preserved and accessible to the public.
The requirement to allow public access is quite stringent and in practice the asset may be loaned to a museum for part of the year to meet this requirement.
Conditional exemption is an important way of retaining heirlooms and other valuables in the family. However, where an asset qualifies for conditional exemption and the owners wish to realise its value, then the government allows a tax relief for private treaty sale. The arrangement is for any sale which, unlike an auction, is not a public sale.
The capital gains tax or inheritance tax that would otherwise be payable, is effectively shared between vendor and purchaser. The purchaser will normally be a gallery, museum, library or archive. The two parties agree a price for the item. The vendor would then receive the proceeds, less notional tax, plus a douceur (or sweetener) typically around 25% of the tax otherwise payable. The purchaser pays the full price, but with a discount of 75% of the tax otherwise payable by the vendor. Taking the example of an item worth £100,000 subject to inheritance tax of £40,000, under a private treaty sale, the beneficiary would receive £70,000 and the purchaser would pay only £70,000. In this case, HMRC would not receive any revenue, sharing the tax saving between donor and public institution.
A very similar arrangement to private treaty is payment in lieu of tax, in which the beneficiaries of an estate agree to donate a 'pre-eminent' asset rather than pay inheritance tax. In this arrangement the tax benefit is shared 25% to the vendor and 75% to the purchaser in the same way as for a private treaty sale. Unlike a private treaty sale, the vendor would not necessarily receive any cash, although the same tax sweetener would be available.
An outright gift to a charity would be exempt from inheritance tax. This option may be more appropriate for items of a smaller value than, for instance, seeking payment in lieu or conditional exemption.
There is no stamp duty on the purchase of paintings unlike for property and shares. To the extent that a deal is arranged from one private collector to the next there would be no VAT on the consideration. As a drawback however, there are no tax advantages to holding artworks in a self-invested pension or individual savings account.
Personal belongings such as jewellery, antiques and other collectibles can be a significant part of individual wealth. These valuables however carry the risk of considerable exposure to tax, even if the items are given away. Coman & Co. are specialists in taxation and would welcome the opportunity to assist you with conserving your personal wealth.