Divorce can be a trying and emotional time and often the last thing on a couple’s mind is tax. Unfortunately when a couple is in the throes of a break-up they can unwittingly give themselves a tax headache down the line. The issue arises when assets are transferred from one spouse to another in the course of a divorce settlement. Although assets can generally be transferred between spouses at no gain, no loss, this treatment ceases after the tax year in which separation occurs.
Spouses are treated as ‘living together’ and thus not separated until they are either (a) separated under a court order, (b) separated by a formal deed of separation or (c) separated in such circumstances that the separation is likely to be permanent. For example, if the spouse moves out of the family home permanently.
As no gain, no loss treatment cannot then apply any gain will be subject to capital gains tax at the appropriate rates (usually 20%) by reference to the open market value of the assets at the date of the disposal.
Donald and Melania are married but Melania left the family home on 28 February 2016, citing ‘irreconcilable differences’. On 31 December 2016 they agreed to split their assets and Donald agreed to give Melania ‘Rump Towers’ (an office block) worth £5M and standing at a gain of £2M. This would crystallise a capital gains tax charge of £400,000 (20% of £2M) in Donald’s hands and this would be payable on 31 January 2018.
If the couple had delayed separation until 6 April 2016 then they would have had until 5 April 2017 to sort out their finances without triggering a capital gains tax liability. On the face of it Melania may prefer to acquire Rump Towers at a base cost of £5M (under the above example) rather than £3M (if no gain, no loss treatment were to apply) however in practice, the tax liabilities are often taken into account in the quantifying the net divorce settlement.
Therefore the (rather flippant!) take home message is that couples should try to time their separation at the start of a tax year rather than at the end of a tax year. This will give more time to arrange affairs and avoid an unwanted tax charge from crystallising. If this cannot be avoided then further advice is necessary to minimise unwanted tax costs.
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