TAX NEWS - JUNE 2010

British Tax: Capital Gains Tax (CGT) hike could push private equity offshore

Private equity firms fear Government plans to raise capital gains tax from 18pc to 40pc could deal a devastating blow to their business model

by Helia Ebrahimi -- Proposals to increase Capital Gains Tax (CGT) was unveiled as part of a package of radical reforms agreed by the new coalition Government.

Although "generous exemptions" were promised to protect British entrepreneurs it was unclear whether the Capital Gains Tax increase on "non-business assets" would be applied to so-called carried interest – the 20pc share of profits private equity firms receive from successful investments.

That "carry" – which is a stake in the businesses owned by private equity – is a vital tool in rewarding employees over five to ten year time horizons and if it is charged at income tax levels returns would fall sharply.

The British Private Equity and Venture Capital Association said: "It is not clear at this stage what the definition of business asset and non-business asset is. However, it is imperative for economic recovery that no changes are made to discourage investment."

Senior industry figures warned such a move would almost certainly drive private equity houses offshore.

The CGT change formed part of the Liberal Democrat's election manifesto which said the proceeds would be used to fund a cut in income tax for lower paid workers on the first £10,000 of their earnings. At the time the BVCA described the proposal as "completely dotty" and deeply damaging to the UK.

Its adoption now underlines the influence of the Liberal Democrats in shaping taxation policy in the new Government. Private equity is seen as a potential soft target for tax raising moves by politicians after its reputation plummeted during the mergers and acquisitions frenzy before the credit bubble burst.

Following claims that some private equity bosses that they were paying less tax than their cleaners, Labour increased Capital Gains Tax (CGT) on carry from 10pc to 18pc in 2007.

The CGT changes will also make investing in listed businesses and buy-to-let property far less attractive as income on shares and property will almost certainly be caught by the "non-business" definition.