By Harrison Dell, Director.
In Australia, capital gains tax (CGT) is a significant consideration for investors, business owners and property owners. However, certain types of assets and investment strategies offer opportunities to avoid or substantially reduce CGT liability.
The key is usually what you are investing in and whether it attracts tax concessions. This is a valid consideration for building an investment portfolio or creating wealth by starting businesses.
This article explores the legal avenues to avoid Capital Gains Tax.
1. The Main Residence Exemption
One of the most ways to avoid Capital Gains Tax in Australia is the Main Residence Exemption. This exemption applies when you sell a property that has been your main residence.
To qualify, the property must have been your home for the entire period you owned it, not used to produce income (with some exemptions, such as the 6-year rule), and situated on land less than two hectares. This exemption can completely eliminate CGT on the sale of your home, making it a powerful tax-saving tool and one many Australian’s have relied on in the last 30 years.
2. Claiming the Small Business CGT Concessions
Small business owners have access to several CGT concessions that can significantly reduce their tax burden. Some of these businesses aren’t exactly small and the benefits are unlimited – Cadena have personally worked on Small Business CGT Concession cases saving tens of millions in tax.
Qualifying for these concessions is extremely complex and depends on the business structure, though generally you need as a minimum:
- Ownership of more than 10%, 20% is preferred.
- Either less than $6m net assets (excluding your home, superannuation and personal assets) or less than $2m turnover in the small business.
The CGT concessions include the 15-year exemption, 50% active asset reduction, retirement exemption, and the rollover concession. Many of these concessions has specific eligibility criteria beyond the basic qualifying criteria. Understanding and utilizing these concessions can lead to substantial CGT savings for small business owners.
The Small Business CGT Concessions can even apply to land used by your business held by a related party (except an SMSF). These concessions need specialist advice, and best practice is to get this before attempting to sell.
3. Early Stage Innovation Companies (ESIC)
Investing in Early Stage Innovation Companies (ESIC) offers both CGT and income tax benefits. Investors in qualifying ESICs can receive a 20% non-refundable tax offset on investments capped at $200,000 per year and a CGT exemption for shares held for at least 12 months but less than ten years.
This incentive is designed to encourage investments in innovative startups and can be an effective way to reduce CGT liability for high-risk angel investments. Often ESIC syndicates invest in a deal on behalf of members.
4. Investing in an Early Stage Venture Capital Limited Partnership (ESVCLP)
An Early Stage Venture Capital Limited Partnership (ESVCLP) is a venture capital fund structure that offers tax benefits to investors. Investments in qualifying ESVCLPs are exempt from CGT, provided the investment is held for at least 12 months – which is similar to an ESIC as above.
This exemption applies to both the initial investment and any subsequent gains, making ESVCLPs an attractive option for investors seeking CGT-efficient investment opportunities. Many of the leading venture capital funds in Australia are ESVCLP’s.
5. Utilise the 50% CGT Discount
Almost every investor can avoid half of their CGT bill. Many people know this, but don’t appreciate the power of it.
For individuals, and trusts that distribute capital gains to individuals, the 50% CGT discount applies to capital gains on assets held for more than 12 months. This discount effectively halves the amount of gain that is subject to CGT, providing a significant tax saving. Remembering that capital gains are added to income, the 50% CGT discount often has a cash effect of reducing tax by more than 50% with marginal tax rates.
It’s important to note that this discount does not apply to companies.
6. Utilising Debt
Taking on debt secured by an asset is not a CGT event in most cases. This strategy is more common with real estate, as it is easy to obtain bank finance in Australia secured by real estate compared to other assets.
While CGT can be deferred, taking on debt to purchase more assets is taking on leverage risk and financial advice should be obtained.
7. Leaving Australia
Perhaps obvious, ceasing as an Australian tax resident means you are no longer subject to CGT except on Australian real estate and land based equities (i.e. mining stocks) in general. Many Australians are moving to tax-free or low-tax countries like Portugal, the UAE, Singapore, Thailand and Indonesia. Many of these even have special visa programs with tax exemptions attached, to attract Australians to live there.
Ceasing tax residency is not easy, see our detailed article on tax residency for digital nomads.
When you cease as a resident of Australia, a special CGT event is triggered on all your assets, though the choice is:
- Treat the assets as all sold on that day, with CGT payable if a gain.
- Opt for that assets to always be taxed in Australia even when you cease as an Australian tax resident.
Seek specialist tax advice if you are seeking to change tax residency.
What Not To Invest In
Many very popular assets have next to no concessional tax treatment, such as:
- Traditional equities i.e. ASX shares;
- Residential real estate;
- Crypto assets; and
- Medium sized businesses.
Tax should not be the main driver in making financial decisions, but it should be considered and weighted as a factor.
While CGT is a complex and often significant tax, understanding the exemptions and concessions available can lead to substantial tax savings. From the Main Residence Exemption to investing in innovative companies or venture capital, there are several strategies to minimize or even avoid CGT in Australia. It’s important to seek professional advice to understand how these options apply to your specific situation and ensure compliance with Australian tax laws.
This material is produced by Cadena Legal, a NSW-registered legal practice. It is intended to provide general information and opinions on legal topics, current at the time of first publication. The contents do not constitute legal advice and should not be relied upon as such. Contact us here for advice.