10 March 2013

Annual Residential Property Tax (ARPT)

There are some serious changes about to come in (April 2013) for UK residential property owned through an offshore company.

The political background to the change is that historically the UK has promoted itself as a tax haven for non-domiciled individuals, and has maintained a tax regime full of rules favourable to “non-doms” and “res-non-doms” when compared with the tax treatment of English residents and domiciliaries.

One common example is the use of a non-resident corporation (often a BVI company) to hold English residential property. One of its main advantages is that the property’s value is outside the scope of inheritance tax. This saving arises because – from one angle – the property is owned by a corporation not by an individual, so its owner cannot die; also – from the other angle – the death of the non-domiciled individual doesn’t lead to any tax because what he owns (i.e. shares in a BVI company) are “excluded” from inheritance tax: being the non-UK-situated assets of a non-UK domiciliary.

In the past, governments have seen planning of this kind as advantageous to the economy and have not challenged it. Foreign individuals can bring their wealth (and their businesses, and their expertise) into the UK with the benefit of tax-neutrality.

However the current coalition government perceives things very differently. In its eyes the need to “balance the country’s books” is paramount: the economy is in poor shape, budgets are being cut, the tax-take needs to be maximised and there needs to be a perception that rich non-domiciliaries are paying their share.

Against that background, we are now faced with a number of punitive taxes, the clear intention of which is not so much to raise tax, as to encourage the break-up of these structures.

Unfortunately, the decision is NOT clear cut in a case like this. There is not one recommendation to make, and overall the decision has to be one for each individual client. There are three options, and they are:

1. No action. Keep the structure as it is.
     ADVANTAGES
     a. no inheritance tax, for the same reason as when the structure was set up
     b. no scope for stamp duty, since nothing is changing
     c. all the non-tax advantages of the trust from a succession, flexibility, confidentiality and asset protection viewpoint which the arrangement previously had
     d. no costs, except the any advice needed to reach this conclusion, since there is nothing to implement
     DISADVANTAGES
     a. the new Annual Residential Property Tax
     b. the property will henceforth be exposed to Capital Gains Tax, re-based to April 2013
     c. the law may change, penalising this option further or negating any of its advantages

2. Collapse the structure completely.
     ADVANTAGES
     a. no new Annual Residential Property Tax
     b. most likely no Capital Gains Tax on general principles (i.e. assuming that the owner will be non-resident)
     DISADVANTAGES
     a. inheritance tax payable at death (This is a crucial point - £15,000 is an unintended and unexpected cost of the structure, but you would have to pay it for over 66 years to match the inheritance tax hit on a £2.5 million property.)
     b. various non-tax issues: for example that there would henceforth be an undervalue transaction in the title to the property.
     d. the law may change, in ways less favourable to non-domiciled property owners than the current laws (you could argue that the subject matter of this email is an example of this already occurring)

3. Tweak/Restructure.
     This would involve retaining some elements of the existing structure but reorganising it in such a way – if possible – that the existing advantages are obtained without giving rise to the new tax charges. This is obviously the most nebulous of the three, and cannot be explained in terms of simple advantages or disadvantages. One obvious disadvantage, however, is that tax law may change further – especially if there is a sense that many non-doms are using a particular tweak – in order to negate or penalise the restructuring. Possibilities include:
     a. letting the property: the new rules don't apply to lettings on a commercial basis, so if it is let out to independent tenants at arm’s-length and at full rent the problems do not apply
     b. removing the company from the structure but keeping the trust in place: superficially this appears to achieve the desired effect (no annual residential property tax, no capital gains tax, possibly no inheritance tax on client’s death), but unfortunately introduces a new complication: the trust would cease to be an “excluded property trust” and would instead fall into the regime called the “relevant property trust regime”. The inheritance tax cost of being in that regime could be somewhere close to the ARPT, so it is hard to recommend it in isolation. However there is an argument to the effect that this further tax can be mitigated by burdening the property with debt.

See also Nina Sampson's article on this topic at Business First Magazine, which is a little more up-to-date than my blog above: http://www.businessfirstmagazine.co.uk/heavy-new-taxes-about-to-hit-foreign-owned-properties/

International Estate Planning - Taster

This is the 3-Minute taster for my full-length International Estate Planning seminar.