Owners of UK residential property held through offshore structures, including non-UK companies and partnerships, should urgently review their structures following the publication of a further consultation by the UK Government on 19 August 2016. The consultation confirms that residential properties in these structures will be exposed to UK Inheritance Tax (IHT) from 6 April 2017. The aim of the changes is to bring all UK residential properties within the charge to IHT.
The Government first announced its intentions as part of its Summer Budget in 2015 but limited details have been available until now. However, the consultation confirms that the new rules will apply from 6 April 2017, which gives very little time to consider the implications and reorganise the structure if necessary.
Whom will these changes affect?
Individuals who are non-UK domiciled (non-doms) will be affected primarily. For many years, it has been standard practice for non-doms to own UK residential property through an offshore structure precisely because it sheltered the property from liability to IHT (although there were other UK tax advantages too), so many non-doms will have structures in place.
Trustees who own shares in an offshore closely held company (meaning, broadly speaking, a company controlled by five or fewer participators) owning UK residential property will also have to become familiar with the IHT periodic charges that are applicable to trusts and the reporting obligations to HMRC that these bring.
In addition, anyone who has legal ownership of the residential property, whether as a nominee or as a director of an offshore closely held company owning UK residential property, will have a liability to pay the IHT and to report to HMRC when an IHT taxable event has occurred.
What type of UK property will be affected?
Any property that constitutes a ‘dwelling’, which broadly equates to residential property of any kind, will be affected but there is to be an express exclusion for care homes and student accommodation.
Therefore, unlike, for example, the Annual Tax on Enveloped Dwellings (ATED), all buy-to-lets, residences and residential property left vacant, of whatever value, will be subject to IHT. So will buildings which are in the process of being constructed or adapted for use as a dwelling, or which have been a dwelling at any time within the two years preceding the IHT trigger event.
Mixed use properties, where there is a part of the property which constitutes a separate dwelling (e.g. flats above a commercial premises), will be affected by the new rules but IHT will be calculated with reference to the dwelling only.
When will IHT bite?
IHT is often thought of as a tax on death and, when it applies on death, the rate is 40% of the asset’s net value. However, IHT can also apply to lifetime gifts and periodically to trusts (for example on capital distributions from the trust and on decennial anniversaries) and therefore the new rules could adversely impact non-doms who try to reorganise their offshore structures after the new rules come into effect, resulting in tax charges which may not have applied if action had been taken before 6 April 2017.
The changes are arguably retrospective because if the IHT event occurs on 6 April 2017 or later, the entire value of the property (or in some cases, the net value) will be subject to IHT. Unlike ATED-CGT, even if the property has been owned through the structure for many years, no ‘credit’ will be given for value accruing in those years before the changes were introduced.
A call to action
Do the changes spell the end of owning UK residential property through offshore structures? Not necessarily, in my view. Structures can protect family wealth and have traditionally provided privacy (although forthcoming measures such as the Common Reporting Standard, a form of automatic exchange of information, are challenging that position). However, if the main purpose of the offshore structure was to shelter UK residential property from IHT, the clear message from the consultation is that the structure is unlikely to be effective in achieving that purpose after 6 April 2017.
Unfortunately the consultation states that the Government is not inclined to offer any ‘de-envelopment relief’ so there seems no benefit in delaying matters. Equally there may be other UK tax implications of removing properties from existing structures which will need to be weighed against the IHT risk, particularly if that risk can be mitigated by means such as making UK Wills or by taking out insurance.
Although the draft legislation effecting these changes is due to be published later on this year, enough detail is available to allow affected taxpayers to consider their options now.
Long term UK resident non-doms
The same consultation also confirms the Government’s intention to remove the remittance basis of taxation for non-doms who have been resident in the UK for a long time – at least 15 out of the previous 20 income tax years from 6 April 2017.
If you are concerned about how the potential changes may affect you and would like to have an initial discussion about your situation, please get in touch with your usual Fladgate contact or me.