Emergency Budget: Osborne hikes CGT to 28%

Britain's new coalition government has, for some time, said it will need to implement harsh reforms to improve the country's fiscal position, while at the same time stating its wish to continue to foster innovation in the private sector. Today's emergency Budget, coming just three months after the outgoing Labour administration delivered its last policy document, is a mixed bag of tax changes for almost every segment of British society and industry, and private equity is no exception.

For private equity fund managers, a 10% rise in CGT - from 18% to 28% for higher rate tax payers - will come as a blow. However, the hike is considerably less than many had expected, with the worst forecasts suggesting CGT could move fully in line with the level of income tax, hitting 50% for the highest earners.

Osborne said fiscal projections suggested 28% was the optimal level for CGT, with higher rates likely to lead to a fall in revenues as businesses and investors opt to dispose of assets or take their money elsewhere. He also ruled out any form of taper relief, saying the additional costs of administering such a system would be "self defeating". Entrepreneurs' relief allowance, which gives individuals a rate of 10% for a certain portion of capital gains, has been increased from £2m to £5m.

However, the British Venture Capital Association (BVCA) says the move will put the UK industry at a disadvantage. "The sharp rise in capital gains tax will discourage investment in this country and leave the UK in an uncompetitive international position. This has to be the cause of deep concern," said Simon Walker, chief executive of the BVCA.

"Entrepreneur's relief, as currently constituted, does not cover those involved in the investment chain that brings a new idea to the market and its scope should be reviewed by ministers."

Interestingly, the change to CGT will be implemented immediately on 23 June 2010, in a move the government will hope prevents any mass-disposal of assets to avoid the tax.

An increase in VAT, from 17.5% to 20% from early next year, poses dangers to many private equity portfolio companies, but could also present opportunities, according to Simon-Kucher & Partners. While absorbing the cost of VAT could be highly risky, some consumer-facing companies could use the rise to increase margins.

Mark Billige, partner at Sumon-Kucher & Partners UK, said: "The wide-scale re-pricing of most goods allows businesses to creatively ‘round up'. This was used widely during euro harmonisation, wherby to meet the value of the new currency, businesses increased prices and then rounded them up to ‘hot' price points."

Osborne said little on venture initiatives, such as EIS or VCT structures, which Longbow Capital partner Julian Hickman described as ‘disappointing'. While measures to harmonise the schemes across the EU were confirmed, Hickman said we would have preferred to see a broadening of allowed investment types and a simplified tax system.

"The silver lining for the [venture] industry, though, is that given the immediate rise in the CGT rate to 28%, we anticipate a swift increase in interest in the Enterprise Investment Scheme," he explains. "Investors will be keen to know how they can reduce yet another increase in their personal taxation, whilst at the same time contributing to driving innovative British companies forward."

The emergency Budget was widely expected to present major challenges for businesses and investors in the UK, but it will be some time before the full impact of the reforms, for better or worse, becomes clear. Britain's ‘age of austerity' has begun.

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