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When you sell an asset, whether as part of your business or in a personal capacity, it’s very easy to forget that there will probably be tax consequences. Maybe you’ve sold some shares, or an investment property. Maybe your business has sold an office building or a valuable piece of plant. Maybe you’re looking at a life change and after building up your business, you’d like to sell it and do something else.
These are just a few examples of the sort of transactions which can generate a capital gain. Typically, the gain is calculated based on the difference between the money you make from selling an asset or investment and the price that you paid for it (less some costs).
The investments or assets that you sell could be property (for example, a building or block of land) but can also be shares in another company, units in a trust or a managed investment fund. An asset can also be intangible, such as contractual rights that your business has or even the goodwill of the business.
In addition, apart from selling assets, including land or buildings, Capital Gains Tax (CGT) can also be an issue if selling a part of the business, buying out a partner, making extensions to a factory or warehouse, altering your business structure (say by creating a trust and transferring the business assets into it) or receiving compensation for lost or destroyed assets.
There are always exceptions of course, and with CGT the principal exception is if the gain is also assessable under another part of the tax law, for example, if it qualifies as ordinary income. In this situation, the CGT rules take last place. As prime examples, sales of depreciating assets and trading stock are not taxed under the CGT rules because they have their own tax regimes.
Another common exception relates to the disposal of your family home. Provided the house you’re selling is your main residence – basically the house you live in on a daily basis – no CGT will arise when it’s sold.
How does CGT work?
CGT is triggered by a CGT ‘event’. Typically, this happens when you sell an asset but can also happen if the asset is given away, if it’s destroyed or lost, or you stop being an Australian resident.
CGT operates by taxing any increase in value from the time the asset was acquired or created. The capital gain is taxed in the year the asset is sold.
The amounts that are subject to tax vary, but the resulting capital gain is included with your income, and taxed at whatever marginal rate you would then pay. The amount that is added into your assessable income is known as the ‘net capital gain’.
This is worked out by taking the money you make from selling the asset and subtracting your ‘cost base’. This includes the price you paid, any costs incurred in buying and then selling it, and certain other incidental costs. Also, if an asset was bought before September 1999, you may be able to increase the cost base by an ‘indexation’ factor, which adjusts the cost base so you’re not paying tax on the inflation portion of the gain.
This amount is the gross capital gain. Next, take away any eligible capital losses. Finally, apply any applicable ‘discount’ factor (where the asset has been held for at least 12 months, you may be able to reduce the gain by 50%) to give the net gain.
Sometimes the tax law will require that the proceeds and cost base of the asset are not what was actually paid and/or received, but rather, the market value of the asset at that time. This is typically to prevent people from minimising their tax by, say, selling the asset to a relative for a low price.