This note summarises the legislation relating to the changes to the domicile and residence tax rules, announced in the Pre-Budget Report 2007 and amended in the 2008 Budget. These changes affect all non-UK domiciled, UK resident individuals, with effect from 6 April 2008. This has now been finalised in the Finance Act 2008, enacted on 21 July 2008.
Basic change to non-domiciled individuals claiming the remittance basis
Non-UK domiciled individuals now have to claim the remittance basis: the alternative is to be taxed on worldwide income and gains. The Finance Act introduces fundamental changes to the way in which non-UK domiciled, UK resident individuals are taxed in the UK, the majority of which apply to all such individuals, irrespective of how long they have been resident in the UK.
For any individual who has been tax resident in the UK for seven out of the past nine years and who wishes, in any tax year, to claim the remittance basis, a £30,000 annual charge will be levied. This effectively means that an individual resident in the UK since 2001/02 will have to pay the £30,000 charge if he wishes to claim the remittance basis from 6 April 2008. Only those having less than £2,000 of overseas income and gains need not pay the charge. If the claim is not made, the individual will be taxed on worldwide income and gains at the time they arise, and so will need to be sure that adequate records of income and gains made overseas are maintained.
Individuals will have a choice each year as to whether to pay the charge and claim the remittance basis, or be taxed on a world-wide arising basis. However, if in a year in which there is no claim to the remittance basis, an individual remits funds to the UK which have arisen in a previous year for which the remittance basis applied, he will still be taxed on the remitted funds.
The annual charge will be payable in addition to any tax due on income and gains remitted to the UK, but from 6 April 2008, individuals who claim the remittance basis in any year are no longer entitled to the income tax personal allowance or the capital gains tax annual exemption.
For those individuals liable to pay overseas tax e.g. in the US, it is expected that the annual charge will be creditable against that overseas tax.
"Flaws and anomalies"
A number of techniques, previously accepted by HMRC are no longer available:
- Ceased source planning: the long-accepted practice of mitigating UK tax by remitting income to the UK from an overseas account which has been closed before the year of remittance, is no longer possible.
- From 6 April, non-UK income used to purchase an asset which is brought to the UK, is treated as remitted to the UK, and therefore taxable (there is a relaxation for certain items including heritage assets and personal items). This will lead to practical and administrative difficulties for individuals, in addition to a potentially increased tax bill.
- New rules are being introduced to identify remittances from mixed (ie. income and capital) funds.
- Less favourable rules on the remittance to the UK of capital gains on non-UK assets are being introduced, such that a remittance is treated as a capital gain in the first instance. For example: where a gain of £250 arises on the sale of an asset (proceeds £500), £250 will be taxed as a remitted gain, rather than £125 under the previous practice.
- The Finance Act also prevents the practice of a UK resident gifting non-UK income to a relative outside the UK, and for that relative to remit the gift to the UK tax-free. From 6 April, tax is charged on the donor of such gifts to some connected parties, but adult children over the age of 18 have been excluded.
- Interest on funds borrowed overseas to acquire a UK asset, such as a residential property, can no longer be serviced out of offshore income or gains without a taxable remittance arising. Loans already in place at 5 April 2008 will be grandfathered, but changes to loans and charges over existing properties can jeopardise the relief.
Amendments to the taxation of capital gains in non-UK companies and trusts
The Finance Act sets out significant and far broader than anticipated changes to the tax rules in this area, including:
- Gains of non-UK companies with fewer than five owners (“close companies”) will be attributed on a pro-rata basis to those owners and, if the remittance basis has been validly claimed, will be taxed on that basis, but otherwise on an arising basis. This is likely to affect property ownership structures, through, for example, the Channel Islands. These should be reviewed immediately.
- Gains realised by non-UK trusts and non-UK companies where the ultimate owner is a trust, will be attributed to the settlor, and taxed on the remittance basis, or matched with capital payments paid to the beneficiaries, and taxed at the time the payment is made. This measure is intended to apply to gains arising after 5 April 2008 although there is the availability of a rebasing election, which is irrevocable and applies to all assets (care is therefore required in making the election and also in looking at the newly introduced identification rules).
- UK resident, non-UK domiciled settlors of trusts may have to notify HMRC of the details of all trusts, whether the trust was established before or after 6 April 2008.
Changes to the residence rules
Until April this year, only whole days spent in the UK were counted towards establishing residence, and days of arrival and departure are generally ignored. From 6 April 2008, nights spent in the UK count as a day of UK residence, significantly reducing the time an individual can spend in the UK before becoming UK resident, and thus possibly liable to UK tax on worldwide income and gains.
An exception will be available to transit passengers travelling via the UK, provided they remain “airside” in the airport terminal or, if in transit to anther airport in the UK, do not engage in business en route.
Act now
Individuals who are resident but not domiciled and are settlors or beneficiaries of offshore settlements should seek advice now, to consider the full impact of the changes and identify potential action to be taken.
Individuals who have been resident (at 6 April 2008) for seven out of the previous nine tax years should review their offshore investments to determine whether the remittance basis is still applicable (i.e. in effect, the cost v benefit of paying the £30,000 charge).
All UK resident, non-domiciled individuals should assess their annual need for funds in the UK. Where this was previously satisfied out of untaxed capital, the capital “pot” needs to be reviewed and assessed in terms of its value. How long is the “pot” likely to last? How will it be possible to generate additional capital for future use, either in the short or medium term?
View our Domicile and Residence - Changes to the Tax Rules - Frequently Asked Questions.
It is possible to plan for the new rules, and potentially, to restructure your affairs in order to mitigate their effect. Please contact Chris Maddock or Freddie Huxtable to discuss, in more detail, how the changes will affect you.