Prepare Tax Documentation for Individuals

Prepare Tax Documentation for Individuals
Chapter 4 Capital Gains © National Core Accounting Publications

© National Core Accounting Publications
Overview The determine a taxpayer’s Capital Gains Tax (CGT) liability the following factors must be known: Whether a CGT event has happened The time of the CGT event What assets are subject to CGT How to calculate a capital gain/loss Whether there is any exemption Whether a CGT discount applies Whether the taxpayer is entitled to any of the small business CGT concessions © National Core Accounting Publications

Net Capital Gain A net capital gain is assessable income. It is the sum of capital gains for an income year reduced by capital losses made by a taxpayer. © National Core Accounting Publications

CGT Event A capital gain only arises if a CGT event happens. A CGT event happens when: disposal of an asset takes place. an asset is lost or destroyed. shares owned are cancelled or surrendered. a person ceases to be an Australian resident taxpayer. © National Core Accounting Publications 4

Time of the CGT Event CGT applies to CGT assets that have been acquired and disposed of after 19 September 1985. Assets acquired before the 20 September 1985 are outside the CGT provisions. © National Core Accounting Publications 5

CGT Assets A CGT asset includes any form of property: e.g. shares, currency, goodwill, land, buildings or legal or equitable right that is not property: e.g. debts owed © National Core Accounting Publications

CGT Assets Categories of assets Particular CGT provisions apply to three categories of assets: Collectables Personal-use assets Separate CGT assets © National Core Accounting Publications

Collectables An asset is classified as a collectable if: it is kept mainly for personal use or enjoyment, its cost of acquisition on or after 1 July 1995 exceeded $500, (Collectables acquired for $500 or less are CGT exempt) and, it is one of the following: © National Core Accounting Publications

Collectables Jewellery A rare folio, manuscript or book A coin or medallion A postage stamp or first day cover A print, painting, sculpture or similar work of art An antique (aged 100 years or more) A debt owing for any of these items © National Core Accounting Publications

Personal-use Assets CGT assets, other than collectables, which are used or kept by the taxpayer for personal-use or enjoyment. e.g. clothing, electrical appliances, sporting equipment, furniture. are CGT exempt where acquired for less than $10,000. Where a personal-use asset is acquired and disposed of for $10,000 or more, any capital gain is assessable. However, any loss on a personal-use asset is disregarded for tax purposes. © National Core Accounting Publications

Separate CGT assets Separate CGT assets are land, buildings and structures, strata title units, and capital improvements on land. © National Core Accounting Publications

Specific exemptions Assets specifically exempted from CGT include:
Sale of main place of residence “Motor vehicles” Trading stock Betting and gambling wins Compensation for damages or injury © National Core Accounting Publications

Tax implications Capital gains are assessable income. Capital losses are not deductible. © National Core Accounting Publications

Capital Losses A capital loss must be offset against a capital gain as follows: in the same income year, or if no capital gain in the same year, the capital loss must be carried forward to a future year when it can be offset © National Core Accounting Publications

Capital Losses A capital loss which arises on the disposal of a collectable asset may only be offset against a capital gain arising from the disposal of another collectable asset. © National Core Accounting Publications

Illustration: Treatment of a Loss from Collectables
Assume capital gains from collectables total $300 and capital losses from collectables total $500. The taxpayer also has a capital gain on shares of $600. Required: Calculate the net capital gain. Solution: The net capital gain is $600 and there is a net capital loss from collectables of $200 (500 – 300). The net capital loss from collectables cannot be used to reduce the $600 capital gain on shares, but instead must be carried forward. © National Core Accounting Publications

Calculation of Capital Gains
Capital proceeds from disposal - Cost base of asset = Capital gain © National Core Accounting Publications

Cost Base The cost base of an asset CGT is made up of five elements, including all the capital costs of acquisition and disposal. These include the acquisition cost (purchase price), costs of enhancements and improvements, and incidental costs of acquisition and disposal such as legal costs, advertising and valuation costs. © National Core Accounting Publications

Five Elements of the Cost Base
First element: Acquisition costs Second element: Incidental costs Third element: Non-capital costs associated with owning the asset Fourth element: Enhancement costs Fifth element: Title costs © National Core Accounting Publications

Five elements of the cost base
First element: Acquisition costs The money paid (or required to be paid) for the asset and the market value of property given (or required to be given) to acquire the asset. © National Core Accounting Publications

Second element: Incidental costs There are nine incidental costs: remuneration for professional services (e.g. surveyor, auctioneer, broker, agent or legal adviser) costs of transfer stamp duty costs of advertising to find a seller or buyer © National Core Accounting Publications

Second element: Incidental costs costs relating to the making of any valuation or apportionment for the purposes of determining the capital gain or capital loss search fees cost of conveyancing kit borrowing expenses company consolidated group transfer costs © National Core Accounting Publications

Third element: Non-capital costs associated with owning the asset Non-capital costs associated with owning an asset include rates, land taxes, repairs and insurance premiums. Non-deductible interest on borrowings to finance a loan used to acquire a CGT asset and on loans used to finance capital expenditure incurred to increase an asset’s value are also third element costs. © National Core Accounting Publications

Third element: Non-capital costs associated with owning the asset
Five elements of the cost base Third element: Non-capital costs associated with owning the asset Non-capital costs of ownership can only be included in the cost base if the taxpayer cannot claim a tax deduction for them. Non-capital costs cannot be included at all in the cost base of collectables or personal use assets. These costs cannot be indexed or used to work out a capital loss. © National Core Accounting Publications

Fourth element: Enhancement costs These are capital costs associated with preserving or increasing the value of an asset. e.g. an amount paid for a carport to be built on a rental investment property. © National Core Accounting Publications

Fifth element: Title costs Capital expenses incurred to preserve or defend ownership of or rights to the asset. e.g. if the taxpayer paid a call on shares. © National Core Accounting Publications

Methods of Calculation
Frozen Indexation method Discount method Other method © National Core Accounting Publications

Frozen Indexation Method
The Frozen Indexation method may be used to calculate a capital gain if: The gain relates to a CGT asset acquired before 11.45am on 21 September 1999 and, The asset was owned for 12 months or more. © National Core Accounting Publications

Frozen Indexation method
Under this method each element of the cost base (except costs in the third element) are increased by an indexation factor. Indexation Factor uses the Consumer Price Index (CPI). © National Core Accounting Publications

Indexation Factor - is calculated as follows: CPI for quarter when event happened CPI for quarter when expenditure was incurred The Indexation Factor must be rounded to 3 decimal places. © National Core Accounting Publications

Discount method The Discount method may be used to calculate a capital gain if: the taxpayer is an individual, trust, or complying superannuation fund. the CGT event relates to a CGT asset acquired either before or after 11.45am on 21 September 1999. the CGT asset was held for 12 months or more. © National Core Accounting Publications

Discount method A discount percentage is applied by which to reduce the capital gain as follows: 50% for individuals and trusts. 331/3% for complying superannuation funds. Companies are not entitled to discount capital gains. © National Core Accounting Publications

Discount method A capital gain is reduced by the relevant discount percentage only after all available capital losses have been applied. That is, the discount applies only to the net capital gain. © National Core Accounting Publications

Illustration: Calculation of Net Capital Gain - Discounting
Harshini sold shares during the current income year that realised the following capital gains and losses: Gain on sale of BB shares $ 10,000 Loss on sale of CC shares $ 3,500 All shares were acquired after 21 September 1999 and held for more than 12 months. Required: Calculate the minimum net capital gain. © National Core Accounting Publications

Solution: The minimum net capital gain is: Gain on BB shares $ 10,000 Loss on CC shares (3,500) 6,500 less 50% discount 3,250 3,250 Note - the loss on CC shares is applied against the gain on BB shares before the 50% discount is applied. © National Core Accounting Publications

Other method The Other method is used only where a CGT asset is acquired and disposed of within 12 months. The capital gain is calculated simply by subtracting the cost base of the CGT asset from the capital proceeds from disposal. © National Core Accounting Publications

Indexation Method Discount Method Other Method Description of Method Allows the taxpayer to increase the cost base by applying an indexation factor based on CPI up to September 1999. Allows the taxpayer to discount their capital gain. Basic method of subtracting the cost base from the capital proceeds. When to Use the Method Use for an asset owned for 12 months or more if it produces a better result than the discount method. Use only for assets acquired before 11.45am (by legal time in the ACT) on 21 September 1999. Use for an asset owned for 12 months or more if it produces a better result than the indexation method. Use when the indexation and discount methods do not apply (for example, if you have bought and sold an asset within 12 months). How to Calculate the Capital Gain Apply the relevant indexation factor, and then subtract the indexed cost base from the capital proceeds. Subtract the cost base from the capital proceeds, deduct any capital losses, and then reduce by the relevant discount percentage. Subtract the cost base from the capital proceeds. © National Core Accounting Publications

Capital Gain Calculation
Which Method to Use? Date and time Asset acquired: Before 11.45am AET 21 September 1999 After 11.45am AET Methods available: Frozen Indexation method or Discount method If asset held 12 or more months. Other method If asset held less than 12 months. © National Core Accounting Publications

Illustration: Purchase and Sale
Ari purchased a block of land on 15 January 1994 for $100,000, and sold it on 1 October 2015 for $180,000. Required: Calculate the capital gain using both the Frozen Indexation method and the Discount method. © National Core Accounting Publications

Solution: (i) Frozen Indexation method The capital gain is: Capital Proceeds from Disposal $ 180,000 less Indexed Cost Base 100,000 x 1.117* 111,700 *68.7/ ,300 (ii) Discount method (180,000 less 100,000) x 50% = $ 40,000 In this case the Discount method produces the better result for the taxpayer. © National Core Accounting Publications

Illustration: Purchase, Improvements and Sale
Huizhen acquired a building for $60,000 on 1 July Improvements costing $25,000 were carried out during August On 31 March 2016 the building was sold for $140,000. Selling costs were $6,000. Required: Calculate the capital gain using the Frozen Indexation method and Discount method. © National Core Accounting Publications

Solution: (i) Frozen Indexation method The capital gain is: Capital Proceeds from Disposal $ 140,000 less Indexed Cost Base Purchase Price 60,000 x 1.368* $ 82,140 *68.7/50.2 Improvements 25,000 x 1.124** **68.7/ ,100 Selling Costs 6, ,240 23,760 (ii) Discount method (140,000 – 60,000 – 25,000 – 6,000) x 50% = $ 24,500 In this case the Frozen Indexation method produces the better result for the taxpayer. © National Core Accounting Publications

Illustration: Indexed and Reduced Cost Base
Jamie Lyon purchased shares in Sea Eagles Ltd on 31 December 1992 at a cost of $25,000. He sold the shares on 1 April 2016 for $28,000. Required: Calculate the capital gain using both the Frozen Indexation method and Discount method. © National Core Accounting Publications

Solution: (i) Frozen Indexation method Therefore, the capital gain is: Capital Proceeds from Disposal $ 28,000 less Indexed Cost Base 25, x * = $28,575 ** 28,000 * 68.7/ Nil ** a cost base cannot be indexed to the extent that the indexing creates or increases a capital loss. As such, Jamie’s cost base is restricted to $28,000. (ii) Discount method (28,000 less 25,000) x 50% = $1,500 Thus, the Frozen Indexation method produces the better result for the taxpayer. © National Core Accounting Publications

Purchase and Part Disposal
Where part of an asset is disposed of, an apportioned cost must be calculated using the following formula: The APPORTIONED COST is equal to: COST BASE x DISPOSAL CONSIDERATION DISPOSAL CONSIDERATION + MARKET VALUE OF THE PART NOT DISPOSED OF © National Core Accounting Publications

Illustration: Purchase and Part Disposal
Zorro acquired a block of land on in May 1997 for $200,000. He sub-dived the land into two blocks of equal size and value in January 2015 at a cost of $3,000. On 1 September 2015 Zorro sold one of the blocks for $250,000. The market value of the unsold block was also $250,000 at that time. Selling costs were $5,000. Required: Calculate the capital gain using the Frozen Indexation method and Discount method. © National Core Accounting Publications

Solution: (i) Frozen Indexation method The capital gain is: Capital Proceeds from Disposal $ 250,000 less Apportioned Cost (200,000 x *) x 250,000/(250, ,000) 205,400 x 250,000/500,000 $ 109,200 Sub-division costs ** 1,500 Selling costs 5, ,200 140,800 * 68.7/ = ** Sub-division costs are equally apportioned across the two blocks. (ii) Discount method 250,000 less (200,000 x 250,000) – 1,500 – 5,000 x 50% = $ 26,250 500,000 © National Core Accounting Publications

Illustration: Asset Held Less Than 12 Months
Toby acquired shares on 1 September 1999 at a cost of $5,000 and sold them on 1 August 2000 for $8,000. Required: Calculate the capital gain. Solution: Using the Other Method, the capital gain is: 8,000 less 5,000 = $3,000 Note that this calculation cannot apply for the 2014/15 income year. © National Core Accounting Publications

Illustration: Purchase and sale
Shayla purchased shares on 1 October 2010 for $10,000 and sold them on 1 June 2016 for $13,000. Required: Calculate the capital gain. Solution: The capital gain is: (13,000 less 10,000) x 50% = $1,500 For assets acquired after 21 September 1999, held for less than 12 months, and then disposed of, the capital gain is calculated using the Other Method (i.e. the difference between the disposal proceeds and the cost base). © National Core Accounting Publications

Illustration: Purchase and sale within 12 months
Carole acquired shares on 1 January 2015 at a cost of $5,000 and sold them on 30 November 2015 for $8,000. Required: Calculate the capital gain. Solution: Using the Other Method, the capital gain is: 8,000 less 5,000 = $3,000 © National Core Accounting Publications

Calculation of Capital Losses
Reduced cost base - Capital proceeds from disposal = Capital loss © National Core Accounting Publications

Capital Losses Reduced cost base This is essentially the 5 elements of the cost base of an asset, but excluding the third element (non-capital costs associated with owning the asset). Note that indexation is not applied to the reduced cost base. © National Core Accounting Publications

Keeping of Records Records which allow the ascertainment of: Date of acquisition Cost base elements and amounts Date of disposal and consideration received must be kept by the taxpayer. © National Core Accounting Publications

Main Residence Exemption
A taxpayer’s dwelling, owned by an individual and normally occupied as the main residence, is usually exempt from CGT . A dwelling is a unit of residential accommodation such as a house, unit, flat, caravan, mobile house, houseboat and also includes a maximum of two hectares of adjacent land. © National Core Accounting Publications

Main Residence Exemption
Absence from main residence A taxpayer who initially occupies a dwelling as a main residence and then ceases to occupy it, can choose to continue to have that dwelling treated as the main residence. Thus, the main residence exemption can still apply for a maximum of 6 years if the dwelling is used to produce assessable income while the taxpayer is absent. © National Core Accounting Publications

Illustration: Main Residence Exemption
Joan occupied a house as her main residence for 4 years. The taxpayer was then transferred in her employment overseas for 5 years and she rented out the house during this time. She returned to Australia after 5 years and re-occupied the house. Required: Determine whether the main residence exemption applies. Solution: If Joan had no other main residence while overseas, she can choose to treat the house as the main residence during her absence. Therefore, the main residence exemption applies. On any future disposal of the house any gain is exempt from CGT. © National Core Accounting Publications

Illustration: Main Residence Exemption Not Applicable
Pedro occupied a house as his main residence for 3 years and then rented it out for 7 consecutive years whilst working interstate. Required: Determine whether the main residence exemption applies. Solution: The full main residence exemption is not available because Pedro’s absence was for more than 6 years. However, a partial exemption may apply. On any future disposal the CGT provisions will apply. © National Core Accounting Publications

Part Main Residence Exemption
A part main residence exemption is calculated as follows: Capital gain or loss x Non-main residence days Days property owned © National Core Accounting Publications

Residence first used to produce income after 20 August 1996
A special rule applies where a main residence is first used for income producing purposes after 20 August The cost base for determining the capital gain is the market value of the dwelling on the date that it was first used for an income producing purpose. © National Core Accounting Publications

Part main residence exemption
A part main residence exemption is calculated as follows: Capital gain or loss x Non-main residence days Days property owned © National Core Accounting Publications

Part Income Producing Use
If a dwelling is used partly as a main residence and partly as a place of business then the business proportion of the house is subject to CGT upon disposal. The cost base for CGT purposes will be the market value of the house on the day it was first used for an income producing purpose. © National Core Accounting Publications

Illustration: Part Exemption for Home
Sachin purchased a house on 1 July 2012 for $500,000. He occupied the house as his main residence but used 1/5 as a place of business for 3 years during the first 3 years of ownership. On 30 June 2016 he sold the house for $800,000. Required: Calculate the capital gain. Solution: The capital gain is: $ Capital Proceeds from Disposal 800,000 less Cost Base 500,000 300,000 multiply by proportion of business use - 1/5 60,000 multiply by time used for business purposes (3 out of 4 years) % 45,000 apply 50% CGT Discount Capital Gain is: 22,500 © National Core Accounting Publications

Illustration: Home first used to produce income
Victoria purchased a home in March 2007 for $260,000. The home was her main residence. On 1 October 2014 she started to use 50% of the home for a consultancy business. At that time the market value of the house was $420,000. She decided to sell the property in August 2015 for $550,000. Required: Calculate the capital gain. Solution: Victoria is taken to have acquired the property on 1 October 2014 at a cost of $420,000. Because she is taken to have acquired it at this time, Victoria is therefore taken to have owned it for less than 12 months and must use the other method to calculate her capital gain. The capital gain is 50% of the proceeds less the cost base. Percentage of business use x (proceeds – cost base) = capital gain 50% (550,000 – 420,000) $65,000 © National Core Accounting Publications

CGT on Foreign Residents, Temporary Residents and Changing Residency
Since 12 December 2006, foreign residents are only subject to CGT if a CGT event happens to a CGT asset that is taxable Australian property. Non-resident taxpayers are not entitled to the 50% discount on capital gains accrued after 7.30pm (AEST) on 8 May 2012. © National Core Accounting Publications

For CGT events that happen on or after 1 July 2006, temporary residents are subject to the same CGT rules as foreign residents. This means that a temporary resident is subject to CGT on CGT events that happen to taxable Australian property. © National Core Accounting Publications

Becoming an Australian resident When an individual becomes an Australian resident (other than a temporary resident), they are taken to have acquired certain assets at the time they became a resident for their market value at that time. Ceasing to be an Australian resident If an individual ceased being an Australian resident taxpayer, they are taken to have disposed of each of their assets that are not taxable Australian property for their market value at the time they ceased being a resident. © National Core Accounting Publications

Prepare Tax Documentation for Individuals

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