The s42 Asset for Share swap double CGT trap
On the face of it s42 is a magic way of moving assets into a trust with no or low tax, but there’s a hidden catch.
Here’s how you might see it at first glance. We’ll take a commercial property as an example.
You own a commercial property in your own name. Let’s say it cost you R2m and is now worth R6m. You form a new company and issue its shares to yourself in exchange for the property. That’s the asset for share swap and there are no taxes of any kind imposed.
According to s42, you now need to wait 18 months before you sell the shares in the company to the trust. No problem.
It’s commercial property, so the sale of the shares does not attract Transfer Duty, as it would for residential property.
You reckon that the shares cost you the R6m that the property was worth when you did the swap and that therefore, when you sell them to the trust at that same value, you don’t make a capital gain, so the entire process turns out to be free of tax.
Your logic is correct, but you didn’t read s42 properly.
In fact, the shares are valued at R2m, the base cost of the property, and not its market value of R6m which you would expect, so when you sell them to the trust for R6m, you make a taxable capital gain of R4m. That’s the first CGT hit.
Not only that, but the property is held by the company at a value of R6m and a base cost of R2m, so if it eventually sells the property, it will also make a R4m taxable capital gain. That’s the second CGT hit! Double CGT!
How did this happen? Well, interestingly enough, when you did the asset for share swap, you inadvertently created the very same structure that I wrote about in my earlier article on the Double CGT Trap. However, in that article, the problem only became evident upon your death whereas in this case it becomes evident much earlier.