Capital gains tax (CGT) can be a complex area for individuals and businesses alike, especially when it comes to transactions involving connected persons. When an asset is sold or transferred between connected parties, determining the market value for CGT purposes becomes a critical task. For those unfamiliar with this specific scenario, it’s essential to understand how these valuations work and why getting them right is so important.

Here, we’ll break down the key issues involved, offering insights into why proper valuations are necessary and the potential challenges faced by businesses and individuals during these transactions.

Understanding ‘connected persons’

The term “connected persons” has a specific definition for CGT purposes. It includes family members (such as spouses, civil partners, children and parents) as well as business relationships like companies and partnerships where control or ownership is shared. In transactions between these individuals or entities, the price agreed upon may not always reflect the true market value.

Why is this important? The UK tax system has measures in place to prevent the artificial reduction of tax liabilities. When assets are transferred between connected persons, HMRC assumes that the sale takes place at market value, regardless of the actual transaction price. This ensures that CGT is calculated correctly, preventing either party from gaining an unfair tax advantage.

The importance of market value in CGT

In CGT transactions, market value is the figure that represents the price that the asset would fetch if sold on the open market. It reflects what a willing buyer would pay, and a willing seller would accept, assuming both parties are well-informed and acting in their best interests.

For individuals and businesses transferring assets between connected persons, getting this valuation right is crucial. HMRC will often scrutinise these valuations, and an incorrect or inaccurate value could lead to disputes, penalties or investigations.

Determining market value, however, can be a challenge, especially for assets that are difficult to value. Examples include shares in private companies, real estate with unusual characteristics or intangible assets like intellectual property. Each of these presents its own valuation issues, which can add layers of complexity to the CGT calculation.

Common challenges in determining market value

Valuing assets for CGT purposes isn’t always straightforward. Here are some of the most common challenges businesses and individuals face when determining market value for transactions involving connected persons.

1. Lack of comparable sales
   For assets like privately held shares or commercial properties, it can be difficult to find comparable transactions on the open market. Without clear benchmarks, estimating market value becomes more subjective, potentially leading to disagreements with HMRC.
2. Intangible assets
   Intellectual property, goodwill and trademarks can be particularly tricky to value. These intangible assets often don’t have a clear market price and may require specialist input to establish their worth.
3. Fluctuating market conditions
   Market values can fluctuate significantly during times of economic uncertainty. This adds an additional layer of complexity to the valuation process, especially if the asset’s value is tied to volatile sectors such as real estate or commodities.
4. Disagreements with HMRC
   If HMRC disputes the market value used in a CGT transaction, the process can become time-consuming and costly. Businesses or individuals may need to provide further evidence or engage independent valuers to support their case. This can delay the completion of the transaction and increase the administrative burden.

How to address valuation challenges

Given the complexities involved in CGT transactions between connected persons, how can businesses and individuals best prepare for the valuation process? Here are some practical steps to consider.

1. Seek professional advice early
   Engaging a qualified tax adviser or accountant with experience in CGT and connected person transactions is key. They can help ensure that valuations are accurate and that the correct procedures are followed from the outset.
2. Use independent valuers
   In cases where valuations are particularly tricky or there’s a risk that HMRC might challenge the figures, using an independent valuer can add credibility. They can provide a professional and unbiased assessment of the asset’s market value, reducing the risk of future disputes.
3. Keep thorough documentation
   It’s essential to maintain detailed records of how the valuation was arrived at. This should include any reports from valuers, market data and supporting evidence. If HMRC later questions the valuation, having this information to hand will make the process smoother and help to justify your position.
4. Be aware of timing
   Market values can shift over time, especially for volatile assets like property or shares. It’s important to ensure that valuations are current and reflect the market conditions at the time of the transaction. Delays in completing the transfer may mean a new valuation is required, increasing costs and complexity.

Closing remarks

Capital gains tax transactions involving connected persons require careful consideration, particularly when it comes to determining the correct market value. Failing to get this right can lead to disputes with HMRC, potential penalties and increased costs. For businesses and individuals, working with professionals who have experience in this area is essential. By following best practices and seeking expert advice, you can navigate these challenges and ensure that your CGT transactions are handled smoothly and efficiently.

At Pearson May, we have extensive experience in handling CGT transactions and can provide you with the advice and support you need to manage this complex area of taxation.

Get in touch with us to find out how we can help.