What happens if… My marriage fails?

Tax is unlikely to be at the forefront of an individual’s mind when they are going through a separation.

However, a lack of tax planning in these circumstances can result in costly tax bills.

Where possible, it can be beneficial for assets to be transferred between a couple while they are “separated” but prior to divorce. This is because there are special capital gains tax (“CGT”) rules for the first tax year in which a couple are “separated”.

Transfers between certain “connected parties”, e.g. parents and their children, are usually treated as deemed disposals at market value for CGT purposes. This can trigger a CGT liability for the individual transferring the asset. The “connected party” rules do not normally apply to transfers between spouses. Transfers between spouses are instead made at “no gain, no loss” which does not trigger a CGT charge. This “no-gain, no loss” treatment applies in the tax year of separation only. Hence, it can be beneficial for assets to be transferred between a couple in the first tax year of separation in order to prevent upfront CGT charges. Advance planning can be particularly beneficial where, for example, a couple has multiple properties.

After the first tax year of separation the “connected party” rules apply such that transfers of assets can result in a CGT liability for the transferor.

After divorce spouses are no longer “connected” parties for CGT. Capital gains will therefore be calculated with reference to the actual consideration given unless the transaction is not carried out on “arm’s length” terms. It worth noting here that there are specific CGT concessions where the main residence is transferred to one spouse or sold as a result of a divorce settlement.

Other tax considerations

Transfers under a divorce settle settlement should not trigger any immediate income tax or inheritance tax (“IHT”) charges. Of course if an individual receives income generating assets as part of the settlement, they may need to pay tax on those assets going forwards.

Transfers made on divorce under the terms of a court order are also exempt from IHT provided there is no gratuitous benefit conferred as a result of the arrangement. Transfers between individuals after divorce follow normal IHT principles i.e. gifts made in the 7 years prior to an individual’s death can result in IHT charges. This is because gifts made in the 7 years before you die utilise the inheritance tax nil rate band of £325,000 in priority to the assets you own on death.

If you would like any further detail on this topic please contact a member of our tax team!