Selling property or investments can be an exciting financial milestone, whether it is cashing in on a long-held asset, upgrading to a new home, or restructuring a portfolio. However, one aspect that often catches people off guard is the tax implications of these transactions, particularly when it comes to capital gains tax. Many individuals only realise the true tax cost after the deal is done, and by then, options to reduce or manage the liability are limited. Understanding how capital gains tax works and how it applies in various situations is essential for anyone who owns property or investments.
Capital gains tax, often referred to as CGT, forms part of the broader income tax system. It is not a separate tax but rather a portion of a person’s taxable income that arises when an asset is sold for more than its original acquisition cost. The difference between the selling price and the base cost is referred to as a capital gain, and it is this gain that may be subject to tax. The tax is triggered when an asset is disposed of. Disposal includes not only sales but also donations, exchanges, and in certain cases, even the death of the owner.
The calculation of capital gains tax begins with determining the base cost of the asset. This includes the purchase price, as well as certain allowable expenses directly related to acquiring, improving, and selling the asset. For example, in the case of a property, expenses such as transfer duties, legal fees, estate agent commissions, and the cost of improvements that add permanent value to the property may be added to the base cost. Regular maintenance or repairs, however, do not qualify. Subtracting the base cost from the proceeds of the sale gives the capital gain.
One area where capital gains tax often surprises individuals is the sale of a primary residence. The law does make provision for relief in this case, but the exemption is subject to limits. When a person sells their primary residence, the property they ordinarily reside in, the first two million rand of the capital gain is excluded from tax. This exclusion applies per property and not per owner, meaning if multiple people co-own a residence, the exemption must be apportioned between them.
To illustrate, consider a person who purchased a home for two million rand and later sold it for five million rand. The gross capital gain would be three million rand. From this, the two million rand primary residence exclusion would be deducted, leaving a taxable gain of one million rand. This amount would then be included in the person’s taxable income at the applicable inclusion rate for capital gains, which for individuals is currently forty percent. In this case, forty percent of one million rand, or four hundred thousand rand, would be added to the person’s taxable income for the year, taxed at their marginal income tax rate.
It is important to note that the primary residence exclusion only applies to the portion of the property used for domestic purposes. If part of the property is used for business activities, such as running a small guesthouse or office, the exemption must be apportioned accordingly.
Capital gains tax also applies when selling other investments, such as shares, unit trusts, and investment properties. In these instances, no primary residence exclusion applies, and the entire gain is taxable after deducting the annual exclusion. Every natural person is entitled to an annual exclusion of forty thousand rand on capital gains or losses for the tax year. This means that only capital gains exceeding this threshold are subject to tax. For deceased estates, this exclusion increases to three hundred thousand rand in the year of death.
Another common scenario involves inherited property. While capital gains tax is not triggered when a person inherits property, it is important to remember that the heir acquires the property at the base cost determined at the date of the deceased’s death. Should the heir later sell the property, any gain will be calculated based on the difference between this inherited value and the selling price.
In certain cases, exemptions and roll-overs can apply. For example, when a person donates an asset to a spouse, the capital gain is deferred, and the spouse effectively steps into the shoes of the donor, acquiring the asset at its original base cost. Similarly, when assets are transferred between spouses in terms of a divorce order, the same principle applies.
Recent discussions in tax advisory circles have highlighted the growing importance of accurate record-keeping, especially as property values and investment portfolios grow over time. Failing to retain records of purchase prices, improvement costs, and other deductible expenses can significantly increase the taxable gain when an asset is eventually sold. This has become even more relevant as the revenue authority has enhanced its capacity to track asset disposals and financial transactions through improved data collection and third-party reporting.
Ultimately, capital gains tax is a manageable cost if anticipated and planned for. The key lies in understanding how and when it applies, which exclusions and exemptions may reduce the liability, and how to accurately calculate the base cost of an asset. Given the potential financial impact of CGT, especially on high-value assets like property, it is worth seeking professional advice ahead of any significant transaction. By doing so, individuals can avoid the trap of an unexpected tax bill and structure their affairs in a way that is both tax-efficient and compliant with the law.