Understanding Capital Gains Tax (CGT) for Different Business Structures: A Comparison Guide
Capital Gains Tax (CGT) can be one of the more complex areas of tax law, especially when trying to understand how it applies to different entities like individuals, trusts, companies, partnerships, and Self-Managed Super Funds (SMSFs). If you’re selling a property, shares, or other investments, understanding how CGT is calculated for your structure is crucial for maximising tax efficiency and minimising liability. In this article, we’ll break down how CGT is calculated across these entities, compare tax rates, explore available discounts, and discuss how to choose the most tax-efficient structure.
What is Capital Gains Tax (CGT)?
Capital Gains Tax (CGT) is the tax you pay on the profit (capital gain) when you sell an asset for more than what you paid. The tax is applied to the net capital gain, which is the difference between the selling price and the asset’s original cost, minus any eligible deductions (such as selling costs or improvements). The ATO offers a convenient CGT Tracking Tool, which is available to all Australian citizens.
CGT Calculation for Different Entities
Let’s summarise how CGT is calculated for different entities, including individuals, trusts, companies, partnerships, and SMSFs.
1. Individual
For individuals, CGT is calculated based on the net capital gain, which is the difference between the sale price and the purchase price of an asset. The net capital gain is then added to the individual’s taxable income for the year, and taxed at their marginal tax rate.
- Tax Rate: Marginal tax rate (up to 45% plus the Medicare levy for income over $180,000).
- Discount: 50% CGT discount for assets held for more than 12 months (for individuals).
- Assets Protection: Limited. Individual assets are generally not protected from creditors.
- Tax Efficient Structure: CGT is less tax-efficient for high-income earners, especially without access to structures like trusts or SMSFs.
2. Trust
Trusts are often used to distribute capital gains to beneficiaries, who are then taxed on the capital gain in their personal tax returns. The trustee is responsible for reporting the CGT event, but the tax burden is generally passed on to the beneficiaries.
- Tax Rate: Capital gains are passed through to beneficiaries and taxed at their marginal tax rate.
- Discount: Trusts can access the 50% CGT discount for assets held longer than 12 months, but only if the beneficiary receiving the gain is an individual or a trust with individual beneficiaries.
- Assets Protection: Trusts offer a higher level of asset protection, as the assets are owned by the trust, not the beneficiaries.
- Tax Efficient Structure: A discretionary trust can be very tax-efficient if capital gains are distributed strategically to beneficiaries in lower tax brackets.
3. Company
Companies are separate legal entities, meaning they pay tax on capital gains at the corporate tax rate. The CGT discount is not available to companies, but companies can offset capital losses against other income.
- Tax Rate: 30% (or 25% for qualifying small businesses).
- Discount: No CGT discount for companies.
- Assets Protection: Companies provide a high level of asset protection, as shareholders’ liability is limited to the value of their shares.
- Tax Efficient Structure: Companies can be tax-efficient for businesses reinvesting profits, but they do not benefit from individual CGT discounts.
4. Partnership
In a partnership, there is no tax paid by the partnership itself. Instead, capital gains are passed through to the partners, who report their share of the gain on their personal tax returns. Each partner’s share of the gain is taxed at their individual tax rate.
- Tax Rate: Each partner is taxed at their individual marginal tax rate on their share of the capital gain.
- Discount: Partners can access the 50% CGT discount if they hold the asset for more than 12 months.
- Assets Protection: Partnerships offer limited asset protection, as personal assets of the partners are generally at risk.
- Tax Efficient Structure: Partnerships can be tax-efficient if the partners are in different tax brackets, but they lack the asset protection and flexibility of other structures like trusts or companies.
5. Self-Managed Super Fund (SMSF)
SMSFs are special entities that allow individuals to manage their own superannuation investments. CGT within an SMSF is taxed at a lower rate, especially when the assets are held for the purpose of retirement.
- Tax Rate: 15% on capital gains (unless in pension phase, in which case CGT is 0% on assets supporting pension benefits).
- Discount: 33.33% CGT discount on assets held for more than 12 months if the fund is not in pension phase.
- Assets Protection: SMSFs offer high asset protection as the fund’s assets are legally separate from personal assets.
- Tax Efficient Structure: SMSFs are one of the most tax-efficient structures for holding long-term investments, particularly for retirement planning, due to the low tax rates.
Comparison of CGT Calculations: Tax Rates, Discounts, and Efficiency
Here’s a quick comparison table summarizing the key differences in CGT calculations, tax rates, discounts, and asset protection for individuals, trusts, companies, partnerships, and SMSFs:
| Entity Type | Tax Rate | CGT Discount | Assets Protection | Tax Efficient Structure |
|---|---|---|---|---|
| Individual | Marginal tax rate (up to 45%) | 50% (for assets held over 12 months) | Low | Less efficient for high earners |
| Trust | Beneficiaries’ marginal tax rate | 50% (for assets held over 12 months) | Medium to High | Very efficient for lower-income earners |
| Company | 30% (or 25% for small businesses) | No discount | High | Efficient for reinvestment, but not for capital gains |
| Partnership | Partners’ marginal tax rates | 50% (for assets held over 12 months) | Low | Moderate efficiency, especially for mixed-income partners |
| SMSF | 15% (or 0% in pension phase) | 33.33% (on assets held over 12 months) | Very High | Very tax-efficient for retirement planning |
How to Choose the Most Tax-Efficient Structure for CGT
The best structure for CGT depends largely on your business’s goals, the nature of the assets, and your long-term strategy. Here are a few considerations to help guide your decision:
- For Long-Term Investment and Retirement: SMSFs are typically the most tax-efficient structure if you’re planning for retirement, especially if you’re holding assets for the long term and can take advantage of the 0% tax rate in pension phase.
- For Asset Protection and Flexibility: Trusts offer a good balance of asset protection and tax flexibility, particularly when you have multiple beneficiaries or want to distribute capital gains strategically.
- For Reinvesting Profits: If your goal is to reinvest profits and you’re not focused on CGT discounts, a company structure might be beneficial due to the relatively low corporate tax rate.
- For Distributing Income Among Partners: Partnerships work well if partners are in different tax brackets, allowing for some tax planning flexibility, but they do not offer strong asset protection.
- For Simple Ownership: If you’re an individual with straightforward investments and don’t need the complexity of trusts or companies, operating as an individual might be easiest. Just remember that the 50% CGT discount is only available if you hold assets for more than 12 months.
Understanding how Capital Gains Tax applies to different business structures is essential for making informed decisions that maximize your tax efficiency and protect your assets. Whether you’re an individual investor, a trustee managing a family trust, a business owner operating through a company, or planning your retirement through an SMSF, choosing the right structure can save you significant amounts in tax.
It’s always a good idea to consult with a tax advisor or accountant to assess your specific situation and help you make the best decision for your financial future.
