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Capital gains tax is levied on the profits earned from selling or exchanging assets. Despite its name, it functions as a type of income tax rather than a separate tax. The rate applied is equivalent to an individual's income tax rate.
Here’s how it works: if an asset like a house increases in value over time, tax is assessed on the profit made when the asset is sold. If the asset is sold for less than its purchase price, no capital gains tax is due, as there is no gain—this is referred to as a capital loss.
Mark Chapman, Director of Tax Communications at H&R Block, explains, “For example, if you purchase a house for $100,000 and its value rises to $1 million, you would pay tax on the $900,000 gain that has accrued.”
Capital gains tax is triggered by a ‘CGT event’, such as selling, exchanging, or gifting the asset. While most countries have some form of capital gains tax, the specifics and rates can vary. In Australia, the tax is settled when filing a tax return, not at the point of sale.
Chapman advises, “When an asset is sold and a profit is realized, it’s wise to set aside an estimated tax amount rather than spending the entire gain. Failing to do so can result in an unexpected tax bill that may be difficult to cover.”
Understanding potential future tax liabilities is crucial for maintaining financial stability. While accountants can provide guidance on tax obligations, being informed about potential liabilities is beneficial.
