What Are The Tax Implications of a Divorce?

Divorce is never a nice time for any of all those involved. Although tax may not be at the top of your priorities during this time, it is extremely important to be aware of the tax implications of divorce and to plan as much as possible in order to prevent the nasty surprise of unexpected tax bills.

Married couples and civil partners receive several tax benefits that are no longer applicable when the relationship has formally ended. Here, we discuss what these tax implications are and how you can prepare for them.

Capital Gains Tax (CGT)

Whilst a couple is married or in a civil partnership, assets that are transferred between them are treated as being transferred on a nil gain, nil loss basis. This means that no taxable gains will crystallise.

This treatment is preserved until the end of the tax year in which the permanent separation occurs (when a court order or deed of separation is issued). This means that, from a tax perspective, the best time to separate is the start of the new tax year on April 6th as this allows a whole year in which to transfer assets CGT free.

In most instances, a separation cannot be foreseen or planned for. With this in mind, an understanding of how CGT applies will benefit both parties.
Remember that the time starts from when the couple officially separates and not when the divorce is finalised. This needs to be considered as it will dictate the time available to transfer assets without CGT implications. Such transfers should not be left until the divorce is official if at all possible.

Exemptions

Each individual has an annual exemption of £12,000 for the 2019/2020 financial year, so any chargeable gains below this amount will be exempt from CGT. The percentage of tax on gains is calculated as follows:

Gains on Residential Property
18% for basic rate taxpayers
28% for high rate taxpayers

Gains on other transfers
10% for basic rate taxpayers
20% for high rate taxpayers

A couple remains legally married until the Decree Absolute is issued and the divorce is finalised. They remain classed as connected persons in terms of CGT until this time. All transfers are treated as being made at market value until the date of the Decree Absolute. Once the divorce is legal, the couple are no longer connected for CGT purposes. Transfers between them will be treated the same way as any other transfers between unconnected individuals unless the transfer is made pursuant to a court order in respect of the divorce.

Assets include shares and personal possessions as well as property. The rules around calculating CGT can be complicated so it is important to gain professional tax advice in this regard.

Principal Private Residential Relief

Private Residential Relief (PPR), is a tax relief that applies to properties which have, at some point at least, been the main residence of the owners. The relief is available for the period in which the property was actually the main residence with a final period (which was 18 months but will reduce to 9 months with effect from 6 April 2020) being treated as the main residence in any event. There can be implications if one spouse moves out and later transfers their share of the property as part of the divorce settlement.

The spouse moving out of the house may put pressure on the other to sell the house and complete the sale within the 18 month/9 month period in order to avoid a CGT liability.

In addition, if either spouse purchases another property whilst the matrimonial home is their main residence for tax purposes, they will be required to pay the 3% stamp duty land tax surcharge on the second property.

Inheritance Tax (IHT)

For IHT purposes, transfers between spouses are exempt. This exemption applies until the date of the Decree Absolute For couples where one party is non-UK domiciled, the maximum amount the UK domiciled spouse can transfer to the other is £325,000. There is no limit on transfer amounts from the non-UK domiciled spouse to the UK domiciled spouse.

It is important to note that any transfers made for the maintenance of the family will continue to be exempt from IHT even after the Decree Absolute.
The Degree Nisi does not have any tax implications as it merely states that there is no reason why the couple may not divorce. It does not have an impact on the official relationship of the couple and they continue to be connected persons.

What’s Next?

Although tax is not the only consideration in a divorce, knowing the rules and understanding the tax implications can ensure that separation and divorce are managed in the most tax-efficient way possible.

Timing is key, so it is important to seek specialist tax advice from early on in the separation process. Get in touch with the Wright Vigar team who will be happy to help. Call us on 0845 880 5678 or email us on website@wrightvigar.co.uk