The UK residence status of a person is determined by reference to the Statutory Residence Test based on physical presence and ties with the UK. Domicile on the other hand, is the jurisdiction a person considers to be their ‘home’ and when they are away from that place, where they ultimately wish to return to. It is possible to be a resident in the UK while being non-UK domiciled. Unfortunately, there is no test that can easily determine a person’s domicile status and many factors are taken into account – HMRC provides a list of the information they may wish to consider when reviewing a person’s domicile: https://www.gov.uk/hmrc-internal-manuals/residence-domicile-and-remittance-basis/rdrm23080
Domicile is of importance for UK residents because non-domiciliaries (non-doms) can receive beneficial tax treatment whereby their non-UK source income and capital gains can be taxed on the ‘remittance basis’. Very generally, this means that a non-dom is not subject to UK tax in respect of their foreign income or gains if they are not remitted to the UK. The remittance legislation is particularly complex and long-term resident non-doms are required to pay a Remittance Basis Charge to access the remittance basis each tax year. Non-doms are also liable to inheritance tax (IHT), only in respect of their UK sited assets, although a long-term resident non-dom will be regarded as deemed domiciled whereby their worldwide assets are within the scope of IHT subject to the application of any Double Tax Estate Treaty. A deemed domiciled status currently becomes applicable for IHT purposes only if the non-dom person is UK tax resident for 17 out of 20 tax years.
Non-doms with substantial assets situated outside of the UK can undertake tax planning to take advantage of certain legislation that is not available to UK doms. This includes setting up offshore trusts and holding UK assets in foreign company wrappers. There has been concern that individuals who claim to be non-dom and who have been in the UK for many years or who were born in the UK and then moved offshore, only to return having taken a domicile of choice in another country were gaining an unfair tax advantage. As a result, new changes are due to come into effect on 6 April 2017 and draft legislation was issued on 5 December 2016. Much of the draft legislation is in accordance with previously published ideas issued by the Government but there are a few surprises – some good and others that could cause problems for non-doms and offshore trusts. Unfortunately, the delay in announcing the changes leaves very little time for non-doms and offshore trustees to assess how they are affected and what actions they can take in the short period to 5 April 2017.
The following sets out a general overview of the main changes but all trustees of offshore trusts that have UK resident beneficiaries; non-doms with non-UK assets and shareholders of foreign companies owning UK residential property should take professional UK tax advice as soon as possible. All of the changes are effective from 6 April 2017.
Returning UK doms – referred to in the draft legislation as ‘formerly domiciled residents’
Such individuals will be treated as UK domiciled for tax purposes if they are UK resident. This will mean they cannot benefit from the remittance basis in respect of their foreign income or gains. In addition, they will be subject to IHT in respect of their worldwide assets if they are UK resident for the relevant tax year as well as one of the previous two tax years.
Offshore trusts set up by such individuals will lose the non-dom benefits and will be assessed personally on trust income and gains unless they and certain other family members are excluded. Furthermore, if they are not excluded from their trust, the trust’s assets will be treated as forming part of their personal IHT estate as well as causing the offshore trust to be liable to IHT on exits and 10 year anniversary events.
Long-term resident non-doms will become deemed domiciled earlier than the current 17/20 year test. The deemed domicile status will become effective once the non-dom has been UK resident for 15 out of the previous 20 tax years. In addition, the deemed domicile status will be extended so that it is applicable for income tax and capital gains tax purposes thereby causing the loss of the remittance basis for deemed doms.
A non-dom who is deemed domiciled will lose the deemed domicile status in the fourth year of non-residence if they leave the UK. However, if they return to the UK they could become deemed domiciled under the 15/20 year test if they have not been non-resident for six of the previous 20 tax years – this would mean that non-doms will generally be required to have six full years of non-residence to shake off their deemed dom status.
Capital gains rebasing
Non-doms who become deemed domicile for CGT purposes due to the change in legislation for 2017/18 will be able to rebase their foreign assets to the value on 5 April 2017 if the asset was owned from 16 March 2016 to 5 April 2017 and the non-dom has paid the remittance basis charge for any tax year before 2017/18. A formerly domiciled resident cannot benefit from rebasing.
It should be noted that non-doms who are not deemed domiciled under the new rules for 2017/18 cannot benefit from rebasing in the tax year they later become deemed domiciled.
Overseas mixed account cleansing
All non-doms (with the exception of formerly domiciled residents) will have the opportunity of cleansing offshore accounts which hold cash consisting of a mixture of capital, foreign income and foreign gains for a two year grace period from 6 April 2017 to 5 April 2019. There is no requirement for the non-dom to have paid the remittance basis charge (as there is for the rebasing mentioned above).
Foreign assets, other than cash, may be sold in the two year period and the underlying proceeds segregated into its underlying capital, foreign income and foreign gains.
If will be necessary to be able to determine the capital element of the account using the strict identification rules.
UK residential property held in offshore wrappers
Many non-doms have previously wrapped their UK residential property inside a foreign corporate wrapper to protect its value from IHT. The IHT legislation is due to capture such property with effect from 6 April 2017.
Non-dom shareholders of foreign ‘close’ companies owning UK residential property will be within the scope of IHT from 6 April 2017. The value of the property may be reduced by the liabilities of the company on a rateable basis.
The draft legislation issued on 5 December 2016 included an extension to the previous proposals such that a non-dom person or an offshore trust settled by a non-dom settlor directly or indirectly owning a debt applied to purchase, maintain or improve a UK residential property will be regarded as owning a ‘UK sited’ asset for IHT purposes.
If the debt is repaid or the property is sold after 5 April 2017, the replacement asset (including cash) will continue to be regarded as UK sited property for a further period of two years. This will cause IHT liabilities to arise if funds are extracted from an offshore trust or a 10 year anniversary occurs while the trust holds or is treated as holding UK sited property.
It will be important for non-doms and offshore trustees to review their positions if a debt applied towards a UK residential property is owned or a UK residential property is held by them directly or within an underlying structure.
Non-dom settlors who become deemed domiciled may continue to receive certain benefits as long as they do not add funds to an existing excluded property settlement. However, the UK resident settlor will personally be taxed on capital distributions made to ‘close family members’ who are either non-UK resident or remittance basis users – a close family member includes the spouse/civil partner/co-habitee of the settlor and any minor child of those individuals or the settlor.
Capital distributions made to non-resident beneficiaries will not reduce the ‘stockpiled’ gains of a non-resident trust so the gains will remain available to match with capital distributions/benefits to UK resident beneficiaries. This will be the case even if the non-resident beneficiary is taxed on the distribution in their country of residence.
Capital payments made to a non-UK resident beneficiary which is gifted to a UK resident recipient within three years will be taxed as if the UK recipient was a beneficiary of the trust. Again, there would appear to be no relief if the non-resident beneficiary is taxed on the original receipt in their country of residence. The ‘onward payment’ will be taxed if it is received after 5 April 2017, even if the capital distribution to the non-resident beneficiary was before that date.
There is very little time for non-doms and offshore trustees to consider how the changes will impact them and what actions should be taken. It is essential that any person or trust affected takes professional UK tax advice as soon as possible.
Francis Clark has consultants specialising in advising non-doms and offshore trusts regarding their UK tax position and are available to review how the changes will impact and what actions may be considered by 5 April 2017. In the first instance, please contact: