Private Clients - 05 Oct 2015
After a false start last week, when a version of the Consultation Document (Condoc) on reforms to the taxation of non-domiciliaries was released and then immediately withdrawn, HMRC has at last published the final version which appears virtually unchanged from the original.
There is no change to the main proposals outlined in the Summer Budget to the taxation of non-domiciled individuals who are long term UK residents and of UK domiciled individuals and a number of the main elements of the Budget documentation are reiterated in the Condoc. We do have clarification on certain points which were not set out in the documentation released in July 2015, and there are also changes in some areas. Details of the clarifications and changes are summarised below, as well as a reminder of the main proposals. At present, the reforms will be included as part of the Finance Bill 2016 and are still set to come into effect from April 2017.
Non-UK Domiciled Individuals
With effect from 6 April 2017, non-doms who have been UK resident for at least 15 out of the 20 tax years prior to the year under consideration will become deemed UK domiciled for UK tax purposes. This will apply to minors as well as adults, so that children could be deemed domiciled for UK tax purposes before they reach 18 if they fulfil UK residence critieria. Deemed domiciled status will not be inherited and cannot pass from parent to child.
Once the 16th year of residence is reached, non-doms will be taxed on their worldwide income and capital gains as they arise, and their worldwide assets will fall within the Inheritance Tax (IHT) net. They will no longer be able to access the remittance basis of taxation and the £90,000 Remittance Basis charge (RBC) will cease to apply from 2017/18 accordingly. They will therefore be treated in the same way as UK domiciliaries although the Condoc states there will be protections put in place in relation to offshore trusts and structures which were set up before the individual became deemed domiciled, which would otherwise be caught by anti-avoidance legislation once they achieve deemed domiciled status.
Deemed domiciled individuals will be able to access foreign capital losses even if they have not made a foreign loss election so that they will be able to access overseas losses in the same way as UK domiciliaries.
The Budget documentation had proposed that individuals would be able to lose their deemed domiciled status by leaving the UK for five complete tax years. However, the Condoc sets out an amended proposal under which a deemed domiciliary would need to spend a period of six or more consecutive tax years outside the UK in order to lose their deemed domiciled tax status.
It has been confirmed that split years of UK residence will be treated as a year of UK residence for the purpose of establishing whether an individual has spent 15 out of the past 20 tax years in the UK, which seems sensible and sits in harmony with the treatment of split years for establishing residence under the Statutory Residence Test.
As announced, the government is consulting on whether the £2,000 de minimis exemption from UK tax for individuals with less than £2,000 unremitted income and gains should remain in place.
It is possible for non-domiciled spouses to elect to be treated as UK domiciled for IHT purposes only. At present, the electing spouse would need to spend four years outside the UK before the election lapses; it is proposed that the required period of non-residence will be increased to six successive tax years.
UK Domiciled Individuals
As announced in July, provisions are to be put in place in relation to individuals who were born in the UK and have a UK domicile of origin (ie inherited a UK domicile from their father or mother depending on their parents’ marital status at their birth), but have emigrated and acquired a domiciled of choice overseas under general law. Under these proposed provisions, individuals will be treated as having a UK domicile of origin whenever they are UK resident, but will be treated as non-domiciled when not UK resident. On this basis, any excluded property trusts they set up whilst resident overseas would fall back into the IHT net for years when the settlors are UK resident. Returning UK doms will be treated as UK domiciled (and therefore subject to income tax and CGT on a worldwide basis) only for the period they are UK resident and will lose their UK domiciled once they leave, on the basis they have retained their foreign domicile of choice under the general law.
There have been suggestions that short periods of UK residence following emigration should be disregarded (possibly a year or two) and this proposal is being considered as part of the consultation.
It is proposed that, following emigration, UK domiciliaries will only lose their UK domicile when they acquire a domicile of choice in their destination country or when they have been resident outside the UK for six years or more, whichever comes first.
There will be protection for non-domiciled settlors who set up offshore trusts before they became deemed domiciled in the UK at year 16. Charges will only apply to deemed domiciled individuals if they receive benefits from an offshore trust structure. In contrast to the current position for arising basis users, this will apply even where the settlor has an interest in the trust. Benefits received by deemed domiciled individuals will be assessed in the UK regardless of whether the benefits are received in the UK or overseas. It is proposed that the taxable value of the benefit will be calculated without reference to the income or gains within the trust structure, although we have no details at present as to exactly how the taxable value of the benefits will be determined or how income or gains within the structure would be taxed going forward. The consultation will consider whether this regime ought to be extended to all UK resident non-domiciled individuals who are settlors and beneficiaries of offshore trusts. This would avoid the need for complex transitional rules which would otherwise be required once a non-dom has been in the UK for 15 tax years and would move to the new regime.
Offshore trusts set up by individuals with a UK domicile of origin who have subsequently acquired a domicile of choice overseas, will be treated as excluded property trusts as long as that individual retains their domiciled overseas under general law and remains non-UK resident. In years where formerly UK domiciled individuals return and become resident in the UK, the offshore trusts they have set up will be treated as ‘relevant property’ for IHT purposes and fall within the UK IHT net. Care would therefore need to be taken with residence at 10 year anniversary points when IHT charges apply, or years in which there are exits from the trust which would also give rise to IHT charges. The 10-yearly periodic charges would be apportioned between years of residence and non-residence. Once the returning UK dom becomes non-UK resident again, the trust will revert to its excluded property status as long as the settlor remains non-UK domiciled under general law. There would be no CGT exit charge in relation to the trust when the individual returned to live overseas.
Income and gains arising in the trust would be assessed on the settlor in years of UK residence as for any other UK resident and domiciled settlor. UK source income will therefore be taxed on the settlor on an arising basis if the settlor has an interest in the trust, or anti avoidance legislation applies.
The Condoc is disappointingly light on detail on the proposed reforms which relate to key areas of legislation, particularly in relation to the taxation of offshore trusts where there is no draft legislation provided, and raises more questions than it answers. The very short consultation period ending on 11 November leaves the profession and professional bodies very little time to consider the proposals and formulate responses. Given the far reaching nature of the proposed changes, an extension of the proposed time-frame and consultation process would seem entirely appropriate to ensure that the legislation (when finally implemented) is fair and properly thought through. Representations are being made to HMRC to this effect.
To discuss this update in further detail, please contact your Frank Hirth adviser.
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