Reforms to the taxation of non-UK domiciles from April 2017
On 5 December 2016, HMRC finally published their draft legislation in respect of the changes to the taxation of non-UK domiciles from 6 April 2017 following two consultations. It is clear that the Government has listened to the responses to the consultations as they have taken into account some of the key points raised by stakeholders.
The new UK deemed domiciled
UK deemed domicile is currently only considered in relation to inheritance tax where a non-UK domiciled individual has been resident in the UK for at least 17 out of the last 20 tax years.
From 6 April 2017, a non-UK domiciled individual will also be UK deemed domiciled for income and capital gains tax if they have been resident in the UK for 15 out of the previous 20 tax years. Those that meet the new UK deemed domiciled test will, from 6 April 2017, be taxed on an arising basis and will not have access to the claim for the remittance basis of taxation unless the unremitted foreign income and capital gains are within the £2,000 de minimis rule, which will remain in place.
The determination of whether an individual was tax resident in the UK will be based on the legislation that applied in that particular tax year. The Statutory Residence Test (SRT) will therefore only apply from 6 April 2013. Any tax years resident in the UK during childhood will be included.
A non-UK domiciled individual can lose their deemed domiciled status if they cease UK residence for 6 complete tax years for income and capital gains tax purposes and 4 complete tax years for inheritance tax purposes.
Transfers of property by an individual whilst they are non-UK domiciled, who at the time of their death are deemed domiciled in the UK, will continue to be outside the scope for inheritance tax.
Born in the UK with a UK domicile of origin
Individuals born in the UK with a UK domicile of origin who have acquired a foreign domicile of choice will be UK deemed domiciled if they are resident in the UK. Individuals have in the past left the UK and acquired a domicile of choice overseas and stated that they have retained their foreign domicile of choice on returning to the UK.
Rebasing of foreign assets for capital gains tax purposes
HMRC have provided non-UK domiciled individuals with unrealised capital gains on foreign assets the opportunity to rebase their assets at 5 April 2017. This will remove any capital gain accrued to 5 April 2017 from a tax charge when it is sold after 5 April 2017. Without this rebasing election, many non-UK domiciles would have considered selling assets prior to the new rules coming in.
There is a sting in the tail! The rebasing election will only be available to a non-UK domiciled individual who becomes deemed domiciled from 6 April 2017. If a non-UK domicile becomes deemed domiciled after that date they will not be able to rebase their assets. There were many representations to the Government that this was unfair but the view of the Government was that the rebasing election was there to give taxpayers time to organise their affairs with the new regime.
The rebasing election will also not be available to a non-domiciled individual born in the UK with a UK domicile of origin who is treated as deemed domiciled in the UK.
An individual will need to remain UK deemed domiciled at the time of the disposal of the asset to benefit from the rebasing.
The rebasing election will apply on all assets but it is possible to elect for the rebasing not to apply on an asset by asset basis and there is no requirement for any part of the sale proceeds relating to the part of the gain accruing before April 2017 to be kept offshore. In theory, a non-UK domiciled individual could sell the asset on 6 April 2017 and have no tax to pay on the remitted proceeds provided clean capital was used to purchase the asset.
The rebasing election will only be available to a non-UK domiciled individual who has paid the remittance basis charge in any tax year before April 2017. Careful consideration has to be given to whether to pay the remittance basis charge in 2016/17 to benefit from the rebasing election where the remittance basis charge has not been paid in any previous tax year.
For the offshore asset to benefit from the rebasing election it will have to be held between 16 March 2016 and 5 April 2017.
On 26 January 2017, HMRC amended the draft legislation such that the rebasing election will now apply to assets which are interests in non-reporting offshore funds which are subject to income tax under the offshore income gain regime.
If you are therefore considering disposing of foreign assets on or before 5 April 2017, you should consider delaying the sale to benefit from the rebasing if the value of the asset has increased.
Mixed funds within an offshore bank account
From 6 April 2017, there is an opportunity for a non-UK domicile individual to segregate mixed funds within a bank account.
This is a most welcome change for both non-UK domiciles and their tax advisers who are tasked with using the incredibly complicated identification rules when remittances are made.
It will allow a non-UK domiciled individual to segregate income, capital and capital gains where they are able to identify each component. It is very important therefore that there are accurate records such that the identification of the source of funds is possible. HMRC have given no detail on the identification process at this stage.
The draft legislation sets out that the offshore transfer rules will be disapplied so the mixed funds can be transferred to a new nominated bank account and the segregation can be made from there. We need to see from HMRC more guidance on how practically this will happen. Once the account has been segregated, a non-UK domiciled individual can choose the order in which he wants to bring those funds into the UK. In most cases it will be from capital first, capital gains second and then finally income.
Unlike the rebasing election, this opportunity does not require a non-UK domiciled individual to have paid the remittance basis charge so it applies to all non-UK domiciled individuals except those that were born in the UK with a domicile of origin in the UK.
This window of opportunity has been increased from one year to two years to allow taxpayers to organise their affairs and to give the banks the time to determine the components and set up the new bank accounts for the transfers.
If you have offshore mixed funds then it is recommended to not make any remittances to the UK on or before 5 April, wait until after 5 April 2017 and start the identification process now so the segregation can be made.
Taxation of Offshore Trusts
Many non-UK domiciled individuals were advised to create an offshore trust before becoming UK deemed domiciled for inheritance tax to benefit from excluded property status. They have provided an effective tax shelter for a non-UK domiciled individual.
There are a number of changes happening to the taxation of offshore trusts, as a result of the changes to the taxation of a non-UK domiciled individual from 6 April 2017. The Government have had great difficulty in coming up with a coherent and fair tax system without seeming to deter foreign investors to the UK.
The original proposals were to tax beneficiaries on any distributions from a trust to simplify matters. It was soon realised that this could mean that the capital held by the trust could be subject to tax. The Government then gave reassurances that non-UK assets held within a non-UK trust by non-UK domiciles would continue having the preferential tax treatment.
So where are we now? We are now pretty much back to the rules as they were with changes which will only affect trusts where distributions are made to someone who is UK deemed domiciled under the new rules. If no distributions are required, it is possible to protect the trust from the new rules but care has to be taken to not taint the trust such that it loses it protection.
The Government has changed the way in which distributions from offshore trusts to non-UK residents are treated as it used to be possible to wash out capital gains to a non-UK resident before making a distribution to a UK resident.
If you are the Settlor or beneficiary of an offshore trust, it would be prudent to seek tax advice before 5 April 2017 to assess your position.
How we can help you?
Each non-UK domiciled individual’s position is going to have different issues to consider. Please contact our Private Client Tax Director Rakesh Dabasia at firstname.lastname@example.org if you would like to discuss how the rules impact on you and the steps you should take to mitigate their impact.
Disclaimer: Please note that this document is not intended to give specific technical advice and should not be construed as doing so. It is designed to alert clients to some of the issues and not intended to give exhaustive coverage of the topic. Professional advice should always be sought before action is either taken or refrained from as a result of information contained herein. March 2017