What is Capital Gains Tax?

Property and Capital Gains Tax

You've sold an investment property at a great price and it calls for celebration. You bought it years ago in an up and coming area, kept it well-maintained and managed to get the right price for it with the result that it has made you a sizeable return on investment. This is known as a capital gain and it is taxable, and will form part of your income tax. So, before you pop the champagne, make sure you understand Capital Gains Tax and consult your tax specialist or accountant so that you know exactly what's going into your pocket and what is owed to SARS.

Craig Hutchison CEO Engel & Völkers Southern Africa, explains that Capital Gains Tax (CGT) is not as cut and dried as it seems and it is always best to chat to a professional in terms of what is owed to The Receiver. "The CGT that is owed to SARS depends on a number of factors. If the property that was sold is your primary residence, the first R2 million gain on the sale is CGT exempt, however if you used part of the house for business purposes you may be liable for different tax structures. If the property is a secondary property, say a townhouse that you bought in order to generate rental income, the CGT structure on this would be different," says Hutchison.

When was CGT instituted?

In South Africa CGT came into play on the 1st of October 2001, which is considered the "valuation date" and only gains made on a property from this date are liable for CGT. This means that the value on which CGT is calculated is based on the value of the property at October 1st 2001 if a property was acquired before this date. The gain made is calculated from this date up to the date of sale.

Who is liable to pay CGT?

Taxpayers including individuals, trusts, companies and close corporations, will be taxed on the gains made from the sale of a property. A resident, as defined in the Income Tax Act, is liable for CGT on assets located inside and outside South Africa. A non-resident is liable for CGT only on immovable property in South Africa or assets of a "permanent establishment" (branch) in South Africa.

If the proceeds exceed the base cost, it is a capital gain

A capital gain arises when you sell an asset, such as a rentable property, for proceeds that exceed its base cost. For example, if you bought a townhouse in 2010 for R650 000.00 and sell it in 2019 for R950 000.00, you have made a profit of R300 000.00 and this amount is subject to CGT.

As a registered taxpayer you need to declare your capital gains and losses in your return of income covering the relevant year of assessment. As such, it is important to keep all the records necessary to determine a capital gain or loss between the time you acquired the asset and disposed of it. Keep this documentation in a safe place as many years can go by before you decide to sell.

Capital versus Revenue

When submitting your annual income tax return, any gains or losses based on a transaction during that period must be declared and submitted. "This is where the confusion can occur and it is up to the taxpayer to prove that certain sums were capital, and not revenue. For instance, if a property was intentionally purchased with the idea of generating a profit, it would be considered as revenue. But if the intention was as a financial investment, this would be capital," explains Hutchison.

Read more: Rental income and income tax explained

Understanding the basic difference between capital and revenue gain will set you in good stead as it will help you keep your tax liability to a minimum. There are deductions that can be made against the capital gain, whether on a second property or primary residence. Improvements to the property can increase its base cost, resulting in a reduction in the capital gain made.

"Improvements to a property such as the installation of a security system, additions and alterations such as a new kitchen, the building of an extra bedroom or a cottage on the property all increase the base cost. As a result, the gain is less and, depending on your tax rate and circumstances, this can decrease the CGT payable," says Hutchison.

While it is important to understand the basic difference between capital and revenue gain, it is always advisable to consult with a professional to ensure regulatory compliance and accurate calculations. CGT is part and parcel of taxable income, however there are allowances which permit taxpayers to maximise their investment benefits.