This note summarises the draft legislation now published with regard to the changes to the domicile and residence tax rules, announced in the Pre-Budget Report 2007. These changes will affect all non-UK domiciled UK resident individuals, with effect from 6 April 2008.
Although the draft legislation is described as “work in progress” by HM Revenue & Customs (HMRC), it will take effect in under six weeks time, from 6 April 2008, leaving very little time for individuals to understand the impact of the changes and to plan for them. We understand that further details will be announced in the Budget on 12 March. It is essential that all non-UK domiciliaries who are, or are potentially, resident in the UK seek appropriate professional advice now. In many cases, urgent action will be required by 5 April 2008.
Basic change to non-domiciled individuals claiming the remittance basis
Non-UK domiciled individuals will have to claim the remittance basis in future: the alternative is to be taxed on worldwide income and gains. The draft legislation introduces fundamental changes to the way in which non-UK domiciled, UK resident individuals will be taxed in the UK, the majority of which will 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 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 £1,000 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 an individual remits funds to the UK which have arisen in a previous year for which the remittance basis applied, in a year in which he has not claimed the remittance basis, 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 will no longer be entitled to the income tax personal allowance or the capital gains tax annual exemption. HMRC has confirmed, in a recent open letter of "clarification", that funds brought into the UK to pay the £30k charge will not in itself be taxable, provided that the funds are remitted direct to HMRC from an overseas bank account.
For those individuals liable to pay overseas tax e.g. in the US, it is unlikely that the annual charge will be creditable against that overseas tax. HMRC is discussing this with the US authorities.
“Flaws and anomalies”
A number of techniques, previously accepted by HMRC will be closed from 6 April 2008:
- 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, will no longer be possible.
- From 6 April, non-UK income used to purchase an asset which is brought to the UK, will be treated as remitted to the UK, and therefore taxable. This will lead to practical and administrative difficulties for individuals, in addition to a potentially increased tax bill.
- New rules will be 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 will also be introduced, such that a remittance will be 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 current practice.
- The draft legislation 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 will be charged on the donor of such gifts to connected parties.
- Interest on funds borrowed overseas to acquire a UK asset, such as a residential property, will no longer be able to be serviced out of offshore income or gains without a taxable remittance arising.
Amendments to the taxation of capital gains in non-UK companies and trusts
The draft legislation 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 will be taxed as they arise in the case of UK assets and on the remittance basis for non-UK assets. 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. In its recent letter of "clarification", HMRC stated that contrary to our initial understanding of the draft legislation, these changes will not be retrospective, and will not apply to gain accrued or realised prior to 6 April 2008.
- UK resident, non-UK domiciled settlors of trusts will have to notify HMRC of the details of all trusts, whether the trust was established before or after 6 April 2008.
These changes take effect from 6 April 2008.
Changes to the residence rules
Currently, only whole days spent in the UK are counted towards establishing residence, and days of arrival and departure are generally ignored. From 6 April 2008, these days of arrival and departure will 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 even where they have to pass through customs to connect to a different terminal or airport, provided they do not carry out any work in the UK on the day of transit.
Act now
It is essential that all individuals potentially affected by these complex changes review their position immediately, and prepare to make any changes necessary in advance of 5 April 2008.
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 appropriate (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?
Budget 2008 Update
Click here to access our summary of changes to the taxation of non-UK domiciled individuals announced in the recent Budget. It is essential that you seek appropriate professional advice on how these changes may affect you.
It is possible to plan for the new rules, and potentially, to restructure your affairs in order to mitigate their effect. For more information on how the changes will affect you, please enter your details in the online form below.