Non UK resident property investors IHT (residential property)

Author

Andy Wood

Andy is a practical, creative tax adviser who assists a variety of clients in achieving their personal and commercial objectives in the most tax efficient manner.

Non UK resident property investors IHT

General – Non UK resident property investors IHT

As one might be aware, IHT is tax that is primarily focused on one’s domicile position rather than one’s tax residence. However, it is still likely to be a significant issue for a non-resident investor in UK residential property.

Broadly, the rule here is that if one is domiciled in the UK then one pays UK IHT on one’s worldwide assets.

If a person is non-resident at the point of death then this is largely irrelevant. Of course, the well informed will know that residence can, and does, feed in to one’s domicile status and particularly how it interacts with the tax rules (see below).

Someone who had a domicile of origin in the UK, unless he or she intends to reside in a particular jurisdiction outside the UK indefinitely and franks that intention with physical residence in that particular jurisdiction, then they will remain UK domiciled.

More relevant perhaps for our non-resident investor friends is that they are likely (though not necessarily) started off with a domicile of origin outside of the UK. Where one is non-UK domiciled then the starting point is that one is only subject to IHT on UK assets only. In these circumstances, foreign assets sit outside the UK’s clutches.

However, this special treatment for non doms has long since had a limited shelf life.

Previously, once a non-dom had been resident in the UK for 17 out of 20 tax years then he or she became ‘deemed domiciled’ for IHT purposes only. Under the reforms to the non dom tax rules that took effect from 6 April 2017 then this long stop date is 15 out of 20 tax years.

These new rules also apply a long stop date of 15 out of 20 years to the tax benefits of being non dom for income tax and capital gains taxes. It should be noted that this does not affect a person’s domicile status at general law.

Furthermore, there is an IHT ‘tail’ meaning that is one has been domiciled or deemed domiciled for IHT purposes one will remain so for three years.

The new deemed domicile rule for IHT purposes

As stated above, the new non dom tax rules establish a 15 out of 20-year test. This is under the newly amended IHTA 1984, s267(1)(b).

In addition, there is also introduced a completely new concept known as the ‘former or returning UK domiciled resident’. These are a special case – albeit, not in the good sense!

Essentially, these people get a one year ‘grace period’ before they are ‘fast-tracked’ to deemed domicile status in the second year of residence.

It is clear what actions should be taken here. If one is not currently deemed domiciled then one should make sure that you revisit the date on which you will become so under the new rules. In other words, underline a different date on the calendar.

It still remains possible to create a valid excluded property trust under the new IHT rules. However, it may well be that one has to do this slightly earlier than perhaps previously envisaged.

Those bestowed with the new status of a former or returning domiciled residents should appraise themselves of the consequences of their special status for IHT, capital gains tax and income tax purposes. It isn’t pleasant reading.

Excluded property – Non UK resident property investors IHT

Background

An excluded property structure has been for some time the ‘go to’ structure for a UK resident and non-domiciled person in the UK. The structure was conceptually quite simple. It would usually involve a non-UK trust being established that held shares in a non-UK company.

That Company would then invest in assets, both inside and outside of the UK. Often, this might include UK residential property and, in many cases, it might also include the UK main residence.

It was, and remains, important that for an excluded property structure to be effective created it should be done prior to the individual becoming deemed domiciled for IHT purposes. If this was the case, then the structure would act as a shelter from UK IHT net for all the assets contained within it in perpetuity.

This being the case even if and when the non dom establishing the trust subsequently became deemed dom. In effect, the status of the assets was frozen at the time the trust was created.

This is also being the case where the underlying assets were located in the UK. In this regard, one might say that the structure had the effect of transforming UK assets in to foreign ones for the purposes of UK IHT. The non dom equivalent of IHT alchemy.

So even with a UK main residence, if it was structured properly, this could be held outside of the estate. As you will have gleaned from our note on the Annual Tax on Enveloped Dwellings (“ATED”) some of the tax advantages of creating this type of structure have been eroded, with substantial income tax charges being levied on the highest value properties held in Companies).

We also have seen the introduction of Non-Resident Capital Gains Tax (“NRCGT”). As a property held in a Company is unlikely to qualify for main residence relief then this tax is something of relevance.

That said, many people seem to have taken the decision that these new taxes on existing structure were a price worth paying for the ongoing IHT protection. However, the Government has clearly lost patience and has taken further, and additional action, by revising the IHT treatment for UK residential property held in such structures.

The changes to the definition of excluded property for IHT purposes?

The initial announcements on the non dom tax changes back in Summer 2015 made for a mixed message.

Initially, we have HMRC’s technical team stating that the changes would broadly be a revision to the definition of excluded property. However, on the other hand, we also had HMRC’s propaganda unit declaring that UK residential property ‘no matter how held’ would fall within the charge to UK IHT. The latter being much more wide ranging than the first one.

Fortunately, it came to pass that the changes were limited to a recasting of what constitutes excluded property rather than a wider set of provisions.

The aim, and affect, of the new rules was to excludes UK residential property from qualifying as excluded property. In other words, it did not matter how deeply the property was buried in an overseas structure, if it value could be traced back to UK bricks and mortar it would fall within the estate of someone, or some persons, who had a beneficial interest in the assets.

As such, UK residential property cannot, and no longer will be, within the definition of excluded property.

The legislation also wraps up certain loans and debts which are related to UK residential property.

That said, it is worth reiterating that any other property will continue to be protected within the excluded property wrapper. For example, at present, that includes UK commercial property, foreign residential property and most other assets.

Complications

Of course, there are a number of complications in these new rules.

There are rules in their to essentially preventing one from, presumably, selling the UK residential property just before debt and reinvesting in non-residential property. Notwithstanding the practical difficulties in predicting one’s own death, the legislation makes doubly sure by applying a deeming provision that means that such property will not qualify as excluded property for two years after being sold

Mixed property will be dealt with on a just and reasonable basis.

The Government has also incorporated a Targeted Anti-Avoidance Rule (“TAAR”) in to the new rules. As such, one must take care if putting in place any planning designed to frustrate the application of these rules.

Planning in relation to UK residential property

As described above, these changes only revise the definition of excluded property.

This is important because they do not inflict any wider principle that UK residential property, no matter how held, will be subject to UK IHT.

For example, UK residential property which is protected by virtue of, say, the UK / India or UK / Pakistan capital tax treaty is not impacted by these changes. This is because these rules do not require property to be excluded property.

In addition, in principle, one could potentially make use of Employer trusts to protect such property from an IHT charge (and also 10 year charges.)

Finally, a Qualifying Non-UK Pension Scheme (“QNUPS”) might act to protect UK residential property from UK IHT where it was comprised in a person’s retirement provisions.

Action points – Non UK resident property investors IHT

  • Where one has an Excluded Property Trust and the impact of these new rules has not been reviewed then consider what the breakdown is between UK and non-UK assets;
  • It is still possible create an excluded property trust before one becomes deemed domiciled for IHT purposes. However, one should consider the acceleration of the new date of being deemed domiciled;
  • There is no de-enveloping relief. As such, one should consider whether and how to deal with existing structures holding main residences;
  • Generally speaking, it might not make sense to use a corporate structure for main residence structures. Bearing in mind that the ATED provisions are also likely to be in point this might make this a worse option (for tax purposes) when compared to holding it in own name;
  • Where the residential property is UK buy to let properties then consider similar structures to those considered by a UK domiciled person.

Non UK resident property investors IHT is the final article in a collection of articles on non UK resident investors property tax for residential properties. The other articles are:

  1. Non UK resident property investor tax: An introduction;
  2. Non UK resident investor tax: SDLT;
  3. Non UK resident investor tax: 3% Additional rate of SDLT;
  4. Non UK resident investor tax: ATED;
  5. Non UK resident investor tax: Capital Gains Tax;
  6. Non UK resident property investors IHT

For changes announced in the Autumn Budget 2017 regarding commercial property and shares in property rich companies then please see here.

 

If you have any queries concerning Non UK resident property investors IHT then please get in touch.

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