What is an indexation allowance?
Indexation allowance has historically been a very useful way of reducing tax for both individuals and companies.
It can be used to increase the base cost of relevant assets, so as to reduce or eliminate a company’s chargeable gain and therefore corporation tax bill.
Before 2008, it could also be used in a similar way to reduce/eliminate an individual’s capital gains tax liability upon disposal of a relevant asset.
HMRC publish indexation allowance tables each month so as to provide the relevant rates to be calculated to increase the base cost of relevant assets.
For individuals, indexation allowance was frozen in 1998 and then eliminated in 2008.
Essentially, the indexation allowance currently allows companies or organisations to include the effects of inflation and claim tax relief when calculating any chargeable gains that they make.
What changes were made to Indexation Allowance?
In the 2017 UK budget, indexation allowance was frozen for companies from 1 January 2018.
The impact of this is that any assets disposed of after this date, will only benefit from indexation allowance up until December 2017.
The Chancellor announced that he believed that this will bring the corporate system into line with personal capital gains tax and non-incorporated businesses for whom indexation allowance was abolished in 2008. However, there is no annual exemption for chargeable gains for companies as is the case for individuals.
See article Indexation Allowance for full details as to how this tax relief works and the mechanics behind it.
Why does Indexation Allowance matter?
As we are just a year after the freezing of the indexation allowance, the impacts of it are less relevant, as the difference between the allowance at December 2017 and now may not be so significant in any case.
However, as time goes on, the differences will become increasingly significant.
Although the government’s intention regarding the indexation allowance for companies is currently unknown, a future total abolition of the allowance can certainly not be ruled out.
It is very possible that HMRC may, at some point in the future, abolish the indexation allowance totally, as they did with individuals in 2008 following an initial freeze in 1998. This could have very significant ramifications, particularly for property rich businesses who have held high-value properties for a long time.
What can be done about it?
Where a company is considering selling properties, or any other assets, it may be better to do so sooner rather than later, to take advantage of the indexation allowance while it is still available.
If the company does not want to sell at this time for other reasons, there are potentially some other planning opportunities available.
One such plan is for groups of companies with investment assets to consider uplifting the capital base cost (for tax purposes) by crystallising the indexation allowance that is currently available (and which will potentially not be available if and when the indexation allowance is abolished).
The indexation allowance can be ‘banked’ by transferring the asset to a group company on a no-gain-no-loss basis. In this case, the transferee company effectively assumes the transferor’s capital gains cost, which has already had indexation allowance included, as appropriate.
Essentially, the indexed gain moves across to the transferee company. When the transferee company then comes to sells the asset, it can use the indexed cost as the base cost, even if at that point the indexation allowance has been abolished.
However, particularly where land is involved, the following aspects also need to be considered, as they lead to costs that could potentially outweigh the tax savings detailed above:
- Property conveyancing costs and other formal transfer documentation that may be required.
- Stamp Duty Land Tax (“SDLT”) will be payable on land transfers as group relief is unlikely to be available unless there is a clear non-tax driven commercial motive for the transfer.
- If the transferee company leaves the group within six years of the transfer, a de-grouping charge will arise.
With regards to the SDLT point above, there is potentially some planning that can be done around this in a certain scenario, which could lead to no SDLT on transfer. If the property can be transferred from a subsidiary company to its parent company as a dividend in specie, then SDLT would not be payable.
Please note that if the indexation allowance is not abolished, then there will be no tax saving in any case. Therefore, the above issues need to be carefully considered before taking any relevant actions.
Please do feel free to get in touch if you have any specific questions in connection with the above.
Farley Kaye FCA
Managing Partner
For more information please contact Farley:
farley.kaye@fkgb.co.uk
052 627 7472
