Bed and Breakfasting - Contracts for Differences

The old practice known as "Bed and Breakfasting" is no longer possible in its simplest form (selling assets, usually quoted shares, and buying them back the next day in order to utilise the annual exemption).

You can wait 31 days before buying the shares back which is fine for Capital Gains Tax planning purposes, but this does not always appeal to those who wish to stay in the market. Contracts for difference can prove useful here.

Mimicking Bed and Breakfasting with CFDs

Let's assume you bought 10,000 shares of Hilton Group 6 months ago at £3.50 and the share price of Hilton Group is currently £3.00. You call up your regular stockbroker and sell the shares at £3.00 so actualizing a loss of £5,000 (for the sake of simplicity we are ignoring broker commissions in this example).

You then immediately call your CFD broker and buy 10,000 shares in Hilton Group. Remember that if you buy a CFD to reflect a long position of 10,000 Hilton Group shares, the broker will normally go and buy those shares in the market. That ties up the broker's capital and he will want to be compensated for that. So regardless of the initial margin you have paid to buy a CFD, you will pay a daily interest rate on the whole of the consideration.

Assuming an interest rate of 5% per annum; this corresponds to £4.11 a day which adds up to £127.40 for 31 days. After 31 days the Contracts for Difference position is sold at the prevailing Hilton Group share price. Immediately after the CFDs have been sold you call up your usual stockbroker and re-buy the 10,000 Hilton Group shares. The Bed & Breakfast deal is now completed.

CFDs have allowed you to stay in the market regardless of the market direction. If the share price rises within the 31 day period then profits will be built up on the CFD trade to offset re-buying the shares at a high price. But if the shares slump then the loss on the CFD trade is compensated by the cheaper price of the shares when they're bought through the stockbroker.

Other ways which could be used in order to utilise the annual exemption:

If following (iv) or (v) above, note that different tax regimes apply to trusts and companies.

Deferring your Capital Gains

One major advantage of CFDs is that you can offset any capital losses against tax. You can use this to your advantage to delay the realization of your capital gains which means that positions can be held into the new tax year.

How it works

For tax purposes, this technique can defer a share trading portfolio gain to the subsequent tax year, when the annual exemption or other losses may be available to offset it. Similarly a loss can be deferred if appropriate, or the holding period for taper relief purposes can be extended.

Example - Suppose 10,000 shares were originally purchased at 100p, and on 6 January 2007 stand at 200p. The investor wishes to lock in the economic gain, while deferring the chargeable gain until after 5 April 2007. The investor takes a short position via contract for differences over 10,000 shares at 200p.

On 6 April 2007 (assuming the tax year ends on 6 April), the share price is 250p. The investor sells the 10,000 shares, and closes the short position on his contract for differences over 10,000 shares. Ignoring brokerage charges and financing credits on the CFD short position, his gains for the tax year 2006/2007 are -:

The £10,000 net chargeable gain is the same as if he had sold the shares in January 2007, except that it has now been realized in the 2007/08 tax year.

 CFD Investments - Saving Tax