One of the most frequently asked questions we get asked is: “How does capital gains tax work?” It’s a topic that can be perplexing and shrouded in confusion for many individuals. So, let’s delve break it down into plain English.
To begin with, capital gains tax applies to various assets that are classified as capital. These assets can include houses, shares, businesses, and even cryptocurrency. Whenever you sell such an asset and make a profit, the gain you accrue is treated as income and becomes subject to taxation.
However, it is important to note that capital gains tax does come with a few exemptions, particularly for small businesses. We will delve deeper into these exemptions in a blog to ensure a comprehensive understanding of the subject.
Let’s consider a practical example to illustrate how capital gains tax works. Imagine you purchased a house that you subsequently rented out. If you decide to sell this property, the capital gain would be calculated based on the difference between the purchase price and sale price and any associated buying/selling costs. These costs may include expenses such as stamp duty, legal fees, and building and pest inspections on purchase and legal fees and commission on sale.
In English the capital gain is calculated as:
Sale Price (less selling costs) – Purchase Price (plus purchase costs) = Capital gain.
If you are an individual taxpayer and have owned the asset for more than 12 months, a significant benefit comes into play. You automatically receive a 50% exemption on the gain, effectively cutting it in half. Subsequently, you are only required to pay taxes on the remaining amount.
There are also exemptions if you lived in the house for a period of time prior to or after renting it out. Best practice is always get a real estate valuation if any change of use occurs ie when you move in or out.
It’s worth noting that different rules apply when it comes to capital gains tax for companies, and this aspect will be covered in a dedicated blog to ensure a comprehensive understanding of the topic.
Understanding capital gains tax is essential for both investors and individuals who own significant assets. It allows you to make informed decisions when it comes to buying, selling, or managing these assets. By comprehending the tax implications, you can strategically plan your financial moves and optimize your tax liabilities.
Additionally, being aware of the exemptions available, especially for small businesses, can potentially provide significant advantages and savings. These exemptions can vary depending on your situation, so it’s crucial to consult with a tax professional to ensure accurate and up-to-date information.
In conclusion, capital gains tax operates on the principle of taxing the profits made from the sale of various assets, including houses, shares, businesses, and cryptocurrency. Although the tax system can be complex, understanding the basics, such as the calculation of gains and the exemptions available, can help you navigate the landscape more effectively.
By educating yourself about capital gains tax, you empower yourself to make informed financial decisions and optimize your tax obligations. Stay tuned for further discussions on exemptions for small businesses and the specific rules that govern capital gains tax for companies in future videos.