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Non-dom changes slip out

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In July 2015, the chancellor announced his intention to abolish permanent non-dom status for income tax and capital gains tax with effect from April 2017. Details on these proposals, which slipped out on 21 September in the form of a consultation document (condoc), only to be rapidly removed from HM Treasury’s website, are summarised below. Changes may be made before the condoc is republished.

15 years (plus 1 day) in the UK: An individual who is domiciled abroad under general law will, from the first day of his 16th year of residence (i.e. having been UK tax resident in 15 of the 20 preceding tax years), be deemed to be UK domiciled (‘deemed dom’) for income tax, capital gains tax and inheritance tax purposes.

This means that a child who is born in the UK to foreign domiciled parents and continues to live in the UK will become deemed dom between their 14th and 16th birthday, depending on when their birthday falls within the tax year.

A split year (i.e. a tax year in which the individual becomes or ceases to be UK resident part way through the year) will count as a complete year for these rules. Thus deemed dom status could arise after being physically present in the UK for significantly less than 15 years.

A tax year in which the individual is resident under the domestic laws of both the UK and another jurisdiction, but is deemed to be resident only in the other jurisdiction, pursuant to a double tax treaty, will count in full for the ‘15 out of 20’ test.

Happily, gifts of foreign assets made before the individual becoming deemed dom, and made within seven years of the individual’s death, will not fall into the individual’s estate as a result of him becoming deemed dom.

Six years abroad: Six or more complete tax years of non-UK residence will be required to reset this clock.

Foreign assets will therefore remain potentially subject to UK inheritance tax for deemed doms for at least six tax years following their departure. If the year of departure and return to the UK are split years, something between six and eight years may be required.

Individuals who are domiciled in the UK under general law (rather than deemed doms) will currently cease to be liable to IHT on foreign assets after three years of non-residence. From April 2017, that period will be extended and will be either the later of the date on which a foreign domicile of choice is acquired, or the end of the sixth full year of non-UK residence.

Similarly, the condoc proposes that the non-dom spouse of a UK domiciled individual who elects to be treated as UK domiciled for IHT purposes will only lose that status after six (instead of the current four) years of non-residence.

Returning Brits: Those born in the UK, with a UK domicile of origin, who move overseas and acquire a domicile of choice in a foreign jurisdiction will become deemed dom if they return to live in the UK without abandoning that foreign domicile of choice under general law.

Trusts established while those individuals are living abroad and domiciled abroad under general law will not be excluded property trusts for IHT purposes and will be subject to the usual income tax and capital gains tax anti-avoidance rules.

Unusually, such trusts will be excluded property trusts in tax years in which the settlor resides and is domiciled abroad; but they will be relevant property trusts (subject to the IHT ten year anniversary charge) in tax years in which the settlor is UK tax resident. The fact that such a trust will ‘bounce’ between the two regimes on a year by year basis will cause uncertainty. The way in which the ten year IHT charge will work is still being considered.

Trusts: Relief is extended to those non-doms who, before becoming deemed dom, established offshore trusts or structures which might otherwise come within the transfer of assets abroad provisions, whereby income arising in the structure could be taxed to the settlor.

Income arising within such a structure will not be taxed to the deemed dom settlor prior to distribution (unless it arises from a UK source). However, tax will be payable on benefits actually received from the offshore trust, whether or not remitted to the UK.

Controversially, the tax due will not be calculated by reference to income and gains which have arisen in the trust. This is a significant departure from the current rules and is intended to relieve the trustees from having to recreate the history of receipts within the trust for tax purposes.

The basis on which the tax bill on distributions will be calculated has not been finalised. There is no indication as to which options are being considered. One possibility is to tax distributions at a flat rate.

The government may also adopt this approach for non-doms who have been UK resident for less than 15 years.

Foreign assets that have been settled into foreign trusts before an individual becomes deemed dom will continue to remain excluded property trusts for IHT when the individual does becomes deemed dom (except in respect of certain UK born individuals, as discussed above).

Workers: Foreign earnings relating to periods before becoming deemed dom, but received after becoming deemed dom, will remain within the remittance basis. Minor tweaks to travel benefits and pension income are proposed.

Mixed funds: Where income, gains or capital of different types or from different years are deposited into a single account, it becomes a ‘mixed fund’ for the remittance rules. Complex statutory rules then apply to determine the nature of amounts withdrawn from such an account. These rules can require a line by line review of each deposit or withdrawal made into such an account.

Non-doms who do not remit amounts from a mixed fund to the UK do not currently need to carry out that reconciliation. HMRC recognises the compliance burden which could arise if deemed doms are required to do so, and has indicated a willingness to reduce the compliance burden, if possible.

It is not clear how this will work, but a flat rate of tax on all withdrawals is one possible approach.

Enveloped homes: A separate consultation will be published to address the related proposal that UK residential property should be within the scope of UK inheritance tax, even where this is held by non-doms through an offshore company or trust.