Capital Gains Tax Liability - Case Study Example

Capital Gains Tax Liability Case Study Word Count 544 Esteemed Client: I have been working in the Tax Services Division of DV Chartered Accountants for two years. It was brought to my attention that you needed some counsel on some rather important matters and I am here to now assist you. I took some notes regarding the meeting which I wish to share with you. First of all, you own 50% of your property. This is equity. With equity you can do many things, such as make purchases against your equity. The fact that you have a house on the beach in Marmion also helps you in the sense that you completely own (jointly, I might add) a residence. This is not only valuable because you singularly own the property, but also because that gives you added equity and financial credibility in addition to other benefits, such as the fact that being a homeowner brings with it many perks. The capital gains that will be have to paid on the apartment is $150,000 since that is the money that was made off the sale. This number is computed by subtracting the original list price ($650,000) from the sale price ($800,000). Additionally, capital gains tax must be paid on the house. The main residence exemption may apply, but you as the client would have to ask a capital gains lawyer if this would apply to you. You were supposed to have given two years' notice within having a combination of residencies.1 Since Angelina owned 10,000 shares in Rio Tinto, and they are now valued at $40 and not the original selling price of $29, she will have to pay capital gains taxes for stock value. Her capital gains tax will be a certain percentage of $11,000 that she made after the BHP takeover of Rio Tinto. Rollover consequences may be that Angelina will have to pay some sort of fine for rolling over her assets. For Angelina's partnership with Lena, she will have to pay a certain percentage of capital gains taxes of $75,000. Since Angelina's property was $100,000, and they split the profit the difference between the market value of $250,000 and the original price, the ladies would each have to pay a percentage of capital gains taxes on the $75,000. One can "defer a capital gain from the disposal of a business asset for a minimum of two years. [However, w]hile the roll over allows you to defer a capital gain to a later income year, other CGT small business concessions may exempt or reduce your capital gain" which are the consequences.2 The law states, "If your business has owned an asset for 15years and you are aged 55years or over and are retiring, or if you are permanently incapacitated, you won't have an assessable capital gain when you sell the asset."3 Therefore, since Angelina is only 52 she cannot get this break. However, the law also states, "A capital gain from the sale of a business asset will be exempt up to a lifetime limit of $500,000. If you are under 55years of age, the exempt amount must be paid into a complying superannuation fund or a retirement savings account to obtain the exemption."4 This would apply to Angelina, so she could put any capital gains tax into the specified type of retirement account. Angelina most likely is able to receive the 50% small business reduction. This means that she can multiply half of her profit, and subtract it from the capital gain and only have to pay that amount. Angelina and Sean would have to meet certain requirements in order to get a small business exemption. Some further research would have to be done in order to see if they met those requirements. According to Active Asset Reduction law, "There are other CGT small business concessions, in addition to this concession, that may apply to reduce your capital gain. You can apply as many concessions as you are entitled to until the capital gain is reduced to nil. There are rules about the order you apply the CGTconcessions...."5 With regard to Angelina and Lena's business, most likely the trading stock could be rolled over since it is such a small amount. However, they will both have to pay capital gains tax on $100,000 each since the market value is worth $500K, the property was bought at $300K, and Angelina and Lena have to split the difference on the ownership, therefore they would each pay capital gains tax on $100K of the profits apiece. Further percentage on capital gains taxes that Angelina and Sean will have to pay (respectively, since each only owns 50%) are as follows. Since assets are already divided, however, they will not have to pay 50% each, but will have to pay a portion of capital gains tax on their own respective incomes. The percentage of capital gains tax on Angelina's Family Trust would normally be $3.5 million, but since it is a discretionary trust it cannot be touched. Angelina might be able to roll over the superannuation on her retirement account since retirement savings generally cannot be taxed for capital gains. If she were to be taxed for capital gains, she would have to pay capital gains taxes on $890K. Sean would have to pay capital gains taxes on his Ducatti Motorbike to the tune of $3.03 million. This is a significant amount. Seeing as how this is all the case, Angelina is in better position, financially speaking, than her husband Sean. Angelina's husband Sean must pay significant capital gains taxes on his Ducatti Motorbike of over $3 million dollars, which is unfortunate but that is the way tax law is written. If Sean had perhaps done something like donate a portion of the money, maybe he could have taken off part of the donation off of his taxes. However, since he received such a large chunk of income from having sold the bike, that is definitely going to affect how much capital gains tax he is going to have to pay. In some ways, here, Angelina has the upper hand. Because she has a discretionary trust, those funds cannot be touched in terms of being taxed for capital gains. Nor can the superannuation on her retirement account be touched for capital gains taxes. In sum, Angelina is in a good financial position. Although she does have to pay some capital gains taxes, she is in a relatively good financial strait because of the fact that she gets so many exemptions for retiring early and having her assets put into a superannuated retirement account. Angelina does not have to worry as much about her financial situation as does her husband Sean. Sean will have to worry about the fact that he has to pay capital gains tax on over $3 million dollars. Hopefully he will have saved some money from the transaction in order to pay that tax. If not, he could be in some dire straits. Many times people make transactions but they don't think beforehand about saving aside some of the profits for what they will have to pay in capital gains or income taxes. This is of premier importance, because if one can't pay one's taxes, then one will have to go into debt to the government and that is not good. Pejoratively speaking, Sean has not made financial decisions that are as wise as his wife's. If Sean had read the law prior to having made decisions, he might have been in an altogether better financial situation. However, because of his ignorance, now he is going to have to pay the price. Angelina has made some wise business decisions. It might behoove her to incorporate her business so that she gets more benefits from the state. Additionally, she might consider trying to get further exemptions of some kind for her small business. She would have to look into the legal ramifications of what would be required, but overall that would be a great asset to her financial situation if she could evaluate what she has and see what she has to do to maintain her current standard of living. Sean should learn from Angelina's savvy and her strong business acumen. Obviously, Angelina planned out how she was going to tackle the issue of how she was going to retire, how she was going to save, and how she was going to divide her assets so that she could make just enough money to make a profit and still have enough left over for capital gains taxes. In addition, she started a small business, which stimulates the economy and creates more equity for herself as well as an added asset worth market value. If Sean started a business in the same fashion that Angelina did, perhaps that might be an option to think about somewhere down along the line. Angelina's and Sean's financial situations are unique, but at the same time they struggle with different issues. Angelina has to find ways in which she can safely roll over her money while Sean has to exhibit better judgment in his investments and the type of capital gains profit he creates and that if he does make profit, to make sure that he has enough money to pay the capital gains taxes. REFERENCES Australian Government Web Site. Capital Gains Tax (CGT) Concessions for Small Business--Overview. Published 4 Dec 2009. Retrieved 21 May 2010 from [http://www.ato.gov.au/businesses/content.aspdoc=/content/00106318.htm&pc=001/003/084/001/006&mnu=38406&mfp=001/003&st=&cy=1]. Australian Government Web Site. 50% Active Asset Reduction. Published 6 October 2009. Retrieved 21 May 2010 from [http://www.ato.gov.au/businesses/content.aspdoc=/content/00129435.htm]. Australian Government Web Site. Roll Over-Capital Gains Tax Concession for Small Business. Published 2 March 2010. Retrieved 21 May 2010 from [http://www.ato.gov.au/businesses/content.aspdoc=/content/00129390.htm]. The Motley Fool Web Site. Capital Gains Tax-Residential Property. Published 23 Nov 2005. Retrieved 20 May 2010 [http://www.fool.co.uk/Your-Money/guides/Capital-Gains-Tax-Residential-Property.aspx]. Read More