Capital gains tax (CGT) is a tax that is levied on the sale of certain assets, including real estate, shares, and other investments purchased with the intention to keep as opposed to buying with the intention to sell for a profit.
In Australia, CGT is generally paid on the profit made from the sale of an asset, which is calculated as the net sale price minus the cost of the asset including any improvements.
However, there are certain exemptions and concessions that may be available to individuals and businesses, which can reduce or eliminate the amount of CGT that is payable.
These capital gain exemptions can include any CGT discount, the 6-year CGT rule, CGT on a principal place of residence, and CGT on certain business sales.
Of course, if you received less than the cost base of your assets, then you made a capital loss.
Interestingly although it is referred to as 'capital gains tax', it's actually part of your income tax - not a separate tax and you report your capital gains and capital losses in your income tax return and in most circumstances, need to pay tax on your capital gains at your marginal tax rate (less any discount), which means that the tax payable on capital gains is calculated at the same rate as your other income.
However, there are certain exemptions and concessions that may be available to individuals and businesses, which can reduce or eliminate the amount of CGT that is payable, so let’s look at them.
50% Capital Gains Tax discount
The good news for Aussies is that there is a 50% CGT discount available for individuals and trusts that hold a qualifying asset for at least 12 months before selling it.
The 50% CGT discount is designed to encourage long-term investment in assets, as it provides a tax incentive for individuals and trusts to hold onto assets for a longer period of time.
To be eligible for the discount, the asset must be a CGT asset and must be held for at least 12 months before it is sold.
The discount is applied to the capital gain made on the sale of the asset, and it is calculated by halving the capital gain and then applying the relevant marginal tax rate to the resulting amount.
It's important to note that the 50% CGT discount is only available to individuals and trusts, and it is not available to companies or superannuation funds. Superannuation funds receive a 10% CGT discount.
In addition, the discount is not available for certain types of assets, including personal use assets.
How to use the 50% CGT discount
For example, if an individual sells an asset that they have held for more than 12 months and makes a capital gain of $10,000, they would be eligible for the 50% CGT discount.
The discount would be applied to the capital gain, reducing it to $5,000.
If the individual's marginal tax rate is 34.5% (including Medicare Levy), the tax payable on the capital gain would be $1,725 (34.5% x $5,000).
CGT on principal place of residence (PPOR)
One of the most common exemptions is the primary residence exemption, which allows individuals to exclude the sale of their primary residence from CGT, the main residence exemption.
This exemption can be particularly useful for homeowners who are selling their home after living in it for an extended period of time and it has substantially increased in value.
To qualify for this exemption, the property must have been used as the individual's main place of residence for the entire period of ownership and the owner must be an Australian resident for tax purposes, the property can’t have been used to produce income and isn’t on land bigger than 2 hectares.
If the property’s land exceeds two hectares, the client can choose which two hectares of land is included under the main residence exemption - the remainder would then be subject to CGT.
If you rent out part of your home or run a business from home, you also don’t get the PPOR CGT exemption in full.
There is also a proportional calculation if the property is tenanted before moving in.
Example: Bill bought a property and lived in it for a period of 10-years.
Bill owned the property for the entire period, he didn’t rent out the property, is an Australian resident for tax purposes and the property doesn’t sit on land bigger than 2 hectares.
Bill is not liable to pay any CGT on the sale of the property.
The 6-year rule for capital gains tax
Usually, a property stops being your main residence when you stop living in it, but the 6-year rule for CGT on a property means you can claim your old home which may have become an investment property as your primary place of residence for up to a further 6 years, and thereby not have to pay CGT on the sale of this property.
In other words, you can collect rent and claim depreciation for up to six years provided you've stopped living there unless you have identified another property as your main residence.
The taxpayer decides which property to apply for the main residence exemption to when one of the properties is sold.
When it comes time to sell you won't be liable for capital gains tax or CGT for those six years.
However, the property needs to be treated as a main residence when it is purchased and you can only use one residence at a time for tax exemption.
After the 6 years is up, you’d be liable to pay CGT on any capital gain made during the period between the 6-year threshold and the sale date.
Example: John bought a property but after living in it decided to turn it into an investment property and rent it out.
After 10 years, John decided to sell the property.
John needs to pay CGT on the capital gain in the 4-year period which exceeded the 6-year CGT exemption.
It's important to note that the 6-year rule is only available for the sale of a primary residence, and it is not available for the sale of other types of assets.
In addition, the 6-year rule does not apply if the individual has claimed the primary residence exemption for any other property within the past 6 years.
CGT exemptions on rental property
There are no CGT exemptions on rental properties outside of the applicable rules and exemptions listed above.
A rental property can benefit from the 6-year rule if it was previously your home, (meaning owners don’t need to pay CGT on the first 6 years the property is rented out.
Beyond this rule, property investors are liable to pay CGT on the capital gains made on an investment property after the first 6-year period to when the property is sold.
If the investment property was not claimed to be a PPOR at any point then the full CGT applies.
There is, however, a way around CGT for some owners and in some citations.
Moving back into the property does not eliminate qualification for CGT, but if you were to do so and then re-establish the property as a PPOR for a minimum of 6 months, it would then qualify for another 6-year exemption rule.
That means that if you sell the property, 2x 6-year periods could be exempt from CGT.
Of course, the property and owner would need to meet the requirements for the rule.
CGT exemptions for businesses
Another common exemption is the small business CGT concessions, which are available to small businesses that meet certain criteria.
Also, note that depending on the structure used in the business there could be access to the 50% general CGT discount as well.
These concessions can provide significant tax savings for small business owners who are selling their businesses or assets.
To qualify for the small business CGT concessions, the business must be a small business with a turnover of less than $2 million per year.
In some instances, if the turnover is above $2 million but the net assets of the taxpayer and related entities are less than $6 million then these tax concessions are available.
There are many rules around the small business concession so seek advice early if considering a sale of the business.
Rollover & Retirement Provisions
Other exemptions and concessions that may be available in Australia include the rollover provisions, which allow individuals to defer the payment of CGT when they sell an asset and use the proceeds to acquire a replacement asset, and the retirement exemption, which allows individuals who are over the age of 55 to exclude the sale of certain assets from CGT if the proceeds are used to fund their retirement.
To meet the relevant criteria for these provisions you will need to meet the relevant business tests.
Note: It's important to note that the exemptions and concessions available for CGT can be complex, and it's always a good idea to seek the advice of a tax professional before making any decisions about the sale of an asset.
By understanding the available exemptions and concessions, individuals and businesses can make informed decisions about their tax obligations and potentially save significant amounts of money.
