One of the main features of the remittance basis regime introduced in Finance Act 2008 is that those who choose to be taxed on the remittance basis will no longer qualify for the Annual Exempt Amount (AEA) for Capital Gains Tax. A number of concerns have been expressed that this is causing significant administrative difficulties in completing Self Assessment returns because of the need to establish the gains and losses which arise on movements from overseas bank accounts held in currencies other than sterling. This is because such accounts are chargeable assets for the purposes of Capital Gains Tax and any transfers between them create a potentially taxable disposal.

To address these concerns, HM Revenue & Customs (HMRC) have been exploring ways in which to reduce or minimise such difficulties within the scope of their administrative discretion.

Acquisition costs of non-sterling bank accounts

Difficulties can arise in calculating the base cost for disposals and part disposals of non-sterling bank accounts in situations where it cannot be ascertained which exchange rate was in force at the time the debt was originally acquired or increased.

To reduce these difficulties, HMRC will permit a simplified approach whereby the acquisition cost, as at 6 April 2008, of a debt represented by a non-sterling account can be calculated by means of an average exchange rate over a period of time up to 6 April 2008. Under this method, individuals can establish the base or acquisition cost of their non-sterling bank accounts by reference to the average foreign currency exchange rates which were in force over the six years up to April 2008. These rates can be found on the HMRC website at Exchange rates.

For the sake of simplicity, HMRC have calculated the average exchange rate for the six years to April 2008 for US dollars and euros, namely 1 = US$0.560275917 and 0.68058106 respectively.

Where such an account has been established for less than six years at 6 April 2008, HMRC will permit individuals to calculate the base or acquisition cost by reference to the average exchange rates in force over the number of years, to the nearest year, that the account has been established.

This simplified averaging approach is entirely optional: individuals can still calculate base or acquisition costs by using the actual exchange rates which were in force at the date on which the currency was deposited into the bank account in question. However, any approach will always need to be followed on a consistent basis.

Calculation of gains and losses: share matching and part disposal rules

The Residence, Domicile and Remittances Manual (RDRM) (PDF 1.2MB) was published on the HMRC website in August and includes some guidance on foreign currency bank accounts. The simplified examples in the RDRM used the part disposal rules in section 42 TGCA 1992 to calculate gains and losses arising from withdrawals from such accounts. Although both lead to the same result mathematically, concerns have been expressed that this is contrary to HMRC guidance at paragraph CG78332 of the Capital Gains Manual which suggests that these gains and losses should be calculated on the basis of the share matching rules in Chapter 4 Part 1 TCGA 1992 (section 104 onwards).

The basis of the view expressed in the RDRM is that a debt represented by a credit in an individual's bank account is a single asset, rather than a series of fungible assets. Therefore any withdrawal of part of the funds in a bank account will be a part disposal of a single asset to which the share matching rules cannot apply. However, the guidance at CG78332 is not wholly explicit on this point and has given rise to possible misinterpretation. HMRC are currently in the process of revising this guidance to remove any ambiguity on this point.

In the meantime, HMRC will not insist that any tax computations of gains and losses arising from movements between foreign currency bank accounts which were carried out for years up to and including 2007-08 using the share matching rules need to be revisited. However, the part disposal rules should be followed from 2008-09 onwards, unless that is not a practical proposition, for instance, because IT systems were in place to calculate gains and losses using the share matching rules. In such cases the change to using part-disposal rules should be made from 2009–10.

In any case, where it is necessary to use share matching rules for 2008–09, the rules must be the revised ones introduced in Finance Act 2008. Continuing to use the old LIFO (last in, first out) and other rules that ceased to apply for disposals after 5 April 2008 will not be acceptable.

Section 13 TGCA 1992

As a consequence of the application of the loan relationship rules, a gain which accrues to a non-UK resident company on disposal of a debt represented by a balance in a non-sterling bank account will not be a chargeable gain. If the company has no chargeable gain, section 13 is not engaged, and therefore UK resident participators cannot be liable to tax in respect of such disposals. This difference in treatment between non-sterling bank accounts held directly and those held indirectly via a non-UK resident company is long standing and there are no plans for its amendment.

Extension of Statement of Practice (SP) 10/84

SP 10/84 allows individuals who are domiciled in the UK to treat all the bank accounts which they hold in a particular currency as a single account for the purposes of Capital Gains Tax. It has been suggested that this non-statutory practice should be extended to include overseas bank accounts held by individuals who are not domiciled in the UK. Our initial analysis has shown that such a change would be outside HMRC's administrative discretion, and would therefore require primary legislation. We are continuing to explore this proposal for future years.

Simplifying the compliance burden

In some circumstances, there can be many separate transactions between sterling and non-sterling bank accounts in a single tax year and in each case a separate calculation will be required to establish the capital gain or loss which arises. The concern has been expressed that this would represent a significant administrative burden when completing a Self Assessment return.

To address this concern, HMRC will permit a simplified approach to calculating gains and losses arising from movements between non-sterling bank accounts. This is based on the aggregation of debits from and credits to a bank account over an appropriate period of time, thereby reducing the number of separate calculations which need to be carried out. The period of aggregation will normally be a calendar month, although part of a month will be used at the beginning or end of a tax year or where the account is opened or closed part way through a tax year.

HMRC guidance at CG78333 will be updated to describe this practice in more detail, a revised draft is provided below.

Paragraph CG78333 – draft revised text

There are often large numbers of transactions on bank accounts. It can be a formidable task to compute gains or losses on numerous withdrawals because each withdrawal is a part-disposal of an asset (the debt represented by the credit balance on the account). Providing it is followed consistently and produces a reasonable overall result, the following practice may be adopted when computing foreign exchange gains and losses on withdrawals from accounts denominated in a currency other than sterling.

The practice involves aggregating debits from and credits to an account over a period. Usually the period of aggregation will be a calendar month, but part of a month will be used at the beginning or end of a tax year, or if the account is opened or closed during the tax year. For these purposes, when the balance on an account becomes negative the account is treated as having been closed because the asset it represents no longer exists, and when an overdrawn account returns to credit it is treated as an account newly opened because an asset – a debt receivable – comes into existence. In what follows we assume the aggregation period is a month.

The foreign exchange gain or loss is computed by taking the consideration as being the total of debits (withdrawals) from the account translated into sterling using the average rate of exchange for the month. The allowable cost to be deducted from this consideration is computed using the part disposal formula A/(A + B) * Total Cost. The Total Cost is the allowable cost of the total foreign currency debt represented by the account at the start of the month (a sterling amount) plus the cost in sterling of credits to the account during the month, derived from the total foreign currency credits translated at the average rate of exchange for the month. In the formula A/(A + B), A is the total withdrawals from the account in the month, expressed in the foreign currency and B is the balance of the account at the start of the month plus the total credits to the account in the month (both in the foreign currency).

The allowable cost used in computing the foreign exchange gain is deducted from the Total Cost and the resulting figure carried forward to form the opening base cost of the balance in the account at the start of the next month.

Monthly average exchange rates may be based on daily rates published or made generally available by any reputable organisation. Weighting of daily rates is not acceptable.

Where this practice is adopted it must be used for all accounts in a particular foreign currency and must be used for the whole of a tax year.

Note. If a taxpayer is within the charge to Capital Gains Tax, neither indexation allowance nor taper relief apply to disposals of assets on or after 6 April 2008. Previously indexation allowance had been frozen at April 1998. For indexation allowance see CG17207+ and for taper relief see CG17895+.

Source: HMRC. www.hmrc.gov.uk. Copyright acknowledged.