By way of follow up to our briefing on the highlights from the 2016 Budget published on Budget day, 16 March 2016, we have set out below our more considered thoughts on the key measures affecting private clients now that the Finance Bill has been published. Whilst there was good news (in the form of the lower capital gains rates applicable from 6 April 2016 and the introduction of “investors’ relief” as an extension to entrepreneurs’ relief), the lack of further detail on the changes to the taxation of non-UK domiciled individuals and to residential property held through non-UK companies was a disappointment (albeit not entirely unexpected). What follows covers those announcements which merit additional comment over and above that contained in our highlights briefing or where further details have become apparent as a result of seeing the legislation published in the Finance Bill last week. Commentary on some measures (such as the changes to the stamp duty land tax treatment of commercial property) is not therefore repeated below. INCOME TAX RATES AND ALLOWANCES The personal allowance for the 2016/17 tax year had already been confirmed at £11,000 and in his speech, the Chancellor announced a higher than expected rise to £11,500 for the 2017/18 tax year. The basic rate limit in 2016/17 will be £32,000 and this will be increased to £33,500 in 2017/18. As a result, the higher rate threshold will be £43,000 in 2016/17 and £45,000 in 2017/18. The Government has previously made a commitment to raise the personal allowance to £12,500 and the higher rate threshold to £50,000 by the end of this parliament in 2020. While there had been some discussion about the possibility of a cut in the 45 per cent additional rate prior to the Budget, the Chancellor clearly felt unable to tackle this against a background of economic uncertainty. He did however stress that the 28 per cent of total income tax revenue paid by the “richest 1 per cent” in 2013/14 was the highest percentage paid by that 1 per cent group in the past 20 years. Micro-entrepreneurs The Chancellor acknowledged the recent boom in “microentrepreneurs” – those earning income from the sharing economy through websites such as airbnb – by creating new allowances aimed at those earning small amounts of income from trading or property. From April 2017, individuals with property income or trading income below £1,000 will no longer need to declare or pay tax on that income. This will also benefit those with property or trading incomes above £1,000, who will be able to deduct the £1,000 allowance instead of calculating their exact expenses. This is intended to reduce the compliance burden on those with modest amounts of income from these sources. Dividend tax rates As previously announced, 6 April 2016 is when dividend tax rates will increase. The new rates will be 7.5 per cent for a basic rate taxpayer, 32.5 per cent for a higher rate taxpayer and 38.1 per cent for an additional rate taxpayer (including trustees). The first £5,000 of dividends will be tax free for individuals. Non-domiciled individuals who elect to be taxed on the remittance basis pay tax on overseas dividends which are remitted to the UK at normal income tax rates rather than the lower dividend tax rates. One result of this is that they will only be entitled to use the £5,000 tax free amount against UK dividends and not against foreign dividends which are remitted to the UK. TAXATION OF FOREIGN DOMICILED INDIVIDUALS Important announcements were made in the Summer Budget 2015 concerning the tax treatment of foreign domiciled individuals. The headline points were: the introduction of a new rule which will deem foreign domiciled individuals to be domiciled in the UK for the purposes of capital gains tax, income tax and inheritance tax once they have been resident here for 15 out of the last 20 tax years; and the introduction of a rule which will deem individuals born in the UK with a UK domicile of origin (but who have acquired a domicile of choice elsewhere) to be domiciled in the UK if they are resident here. Both measures are to take effect from 6 April 2017. Individuals to whom the new rules apply will be taxed on their worldwide income and gains as they arise; and their worldwide assets will be within the scope of inheritance tax. However, the announcement proposed that assets transferred into a trust prior to becoming deemed domiciled will continue to qualify for “excluded property” status for inheritance tax purposes (i.e. foreign situated assets held by the trustees will be outside the scope of inheritance tax). Furthermore, capital gains realised on such assets will only be taxable on the settlor in so BUDGET 2016 – FINANCE BILL UPDATE 2 far as they can be matched to benefits received by him (on a worldwide basis); and foreign source income arising within the trust will be treated similarly. (UK source income will, however, be attributed to the settlor on an arising basis – presumably only if he is capable of benefitting under the trust.) These trust “protections” are a point of considerable interest to practitioners and clients alike, who are keenly awaiting further details. However, although a formal consultation process was conducted last year (closing in November) no further details on these aspects of the new rules were provided in the Budget; so we will have to wait a while longer. Although draft legislation implementing the new deemed domicile test has been published it is now clear that this legislation as well as the detail of the trust “protections” will not be legislated until the Finance Bill 2017. There were, however, two pieces of news on this topic. The budget materials included an announcement that assets held by non-UK domiciled individuals who become “deemed domiciled” under the new rules on 6 April 2017 will be upbased for capital gains tax purposes to their value on that date. Also included was a reference to a “transitional provision with regards to offshore funds to provide certainty on how amounts remitted to the UK will be taxed”. The former provision will be of assistance to clients with non-UK situs assets where, in the absence of an upbasing provision, the full amount of any gain - whether accruing before or after 6 April 2017 - on a disposal after that date would be taxable on the arising basis. Although steps could be taken before 6 April 2017 to upbase such assets (such as disposing of them to a closely held company), such steps can be expensive to implement and may result in a local tax charge wherever the assets are situated. The reference to transitional provisions for offshore funds may herald specific “mixed funds” rules which will deal with the interplay between the regime pre and post deemed domicile. Alternatively, this could pick up on proposals which were made during the consultation process last year that long-term non-domiciliaries should have the ability to remit any offshore funds to the UK after becoming deemed UK domiciled on payment of a flat rate of tax without having to identify whether the funds represent capital, capital gains or income. However, neither this nor the upbasing announcement were discussed or trailed before the Budget; and no further details have yet been provided. There is a good deal of uncertainty concerning both announcements. Will the automatic upbasing and transitional rules apply only to those who become deemed domiciled under the new rules on 6 April 2017, or to those who become deemed domiciled in subsequent years? Will the pre-2017 element of the gain be taxable on the remittance basis or will it escape tax completely? Will the upbasing apply to assets held in a trust settled by the individual in question (it appears not)? Presumably the forthcoming response to the Autumn 2015 consultation will provide further clarity. If rebasing is to apply only to personal assets and if it is right that any pre-April 2017 element of gain will escape tax, individuals who will become deemed domiciled on 6 April 2017 will have the dilemma as to whether they should keep assets in their own name in order to benefit from the upbasing or whether they should transfer them to a trust in order to benefit from the future trust protections. It may be possible to have the best of both worlds but this will require careful planning over the next 12 months. It is increasingly clear that there will be a tight timetable for clients who will become deemed domiciled under the new rules on 6 April 2017 to undertake planning. Even though much of the detail concerning the new regime remains unresolved, we recommend that those affected start talking to their advisers now. INHERITANCE TAX ON RESIDENTIAL PROPERTY HELD THROUGH NON-UK COMPANIES AND OPAQUE ENTITIES Another important change announced in the 2015 Summer Budget concerned UK residential property held through non-UK companies and other entities which are opaque for inheritance tax purposes. From 6 April 2017 such entities will be treated as transparent in relation to the UK residential property owned by them. No further details have yet been published on these changes – a consultation paper is keenly awaited. Many clients with structures which currently fall within the annual tax on enveloped dwellings (ATED) regime are faced with the prospect of paying another year’s tax with no clarity about the availability of the de-enveloping relief referred to in last summer’s announcement. As with the changes to the taxation of non-UK domiciled individuals, the timetable for taking action before the new rules bite is beginning to look somewhat compressed. 3 Again, we recommend that clients should start taking advice now so they are in a position to act quickly as and when the details are confirmed. REDUCTION IN CGT RATES In the current tax year (2015/16), individuals pay CGT at a rate of either 18 per cent or, if they are higher rate taxpayers, 28 per cent (which also applies to trustees and personal representatives). The 18 per cent and 28 per cent rates will be reduced in respect of gains accruing after 6 April 2016 to 10 per cent and 20 per cent respectively. However, gains realised on a disposal of residential property will remain subject to the current rates of 18 per cent or 28 per cent. One very important point which has become clear on seeing the draft legislation is that the existing higher rates will continue to apply to gains on both UK and overseas residential property and not just on UK residential property. Non-UK resident companies disposing of UK residential property to which the Annual Tax on Enveloped Dwellings (ATED) regime does not apply will continue to be chargeable to non-resident CGT at a rate of 20 per cent (aligned with the corporation tax rate); however, gains accruing on the disposal of property subject to ATED will still be chargeable at the 28 per cent rate whether the company which owns the property is UK resident or non-UK resident. Likewise, receipts of carried interest will continue to be subject to the current rates of CGT. One piece of good news is that taxpayers who have part of their basic rate band available will be able to choose that these “upper rate” gains are allocated to the available basic rate band (and therefore taxed at 18 per cent rather than 28 per cent) and that ordinary gains taxable at the new lower rates are allocated to the higher rate band (and so taxed at 20 per cent rather than 28 per cent). It had been expected that the new rates would also apply to individuals who receive benefits from offshore trusts (where there is no living UK resident and domiciled settlor to whom the trustees’ gains would automatically be attributed). Such benefits are “matched” with gains realised by the trustees; and where the trustees’ gains are not matched within the same year they are realised (or the tax year following realisation) then a supplemental charge applies – reaching a maximum (based on the current 28 per cent CGT rate) of 44.8 per cent after six years. A reduced headline CGT rate of 20 per cent would mean that the maximum rate (where the full supplemental charge applies) will be 32 per cent. However, the draft legislation contains no provisions dealing with this and so, on the face of it, gains on the disposal of residential property owned by offshore trusts (which are not taxed on the trustees/settlor) will be taxed on beneficiaries who receive distributions at rates between 20-32 per cent rather than 28-44.8 per cent. This may be because it was simply too complicated to try to make provision for this as part of what are already very complex anti-avoidance provisions relating to offshore trusts. In contrast, residential property gains realised by offshore companies where the gain is attributed to a UK resident shareholder will continue to be taxed at the 18 per cent/28 per cent rates. The reduced rate of CGT together with the proposed reduction in corporation tax rates to 17 per cent by 2020 is likely to make the use of family investment companies more attractive going forward as a vehicle through which to hold investment portfolios for the long term. With the advent of the new lower rates in mind, taxpayers may wish to consider deferring disposals until after 5 April 2016. It should be noted, however, that where assets are disposed of under an unconditional contract the disposal is treated as made on the date of the contract rather than the date of completion (if later) – so where relevant both should be deferred until after 5 April. COMPANY DISTRIBUTIONS The Chancellor announced as part of the 2015 Autumn Statement that the rules relating to company distributions would be tightened up in order to make it more difficult for money to be taken out of a company in a form which gives rise to capital gains tax rather than income tax. At the time, this was aimed at the increase in dividend tax rates but has become all the more relevant now that capital gains tax rates are being reduced, thus making the difference between having to pay income tax and capital gains tax even more significant. New anti-avoidance provisions are being introduced which will apply when a company is liquidated and existing anti-avoidance provisions are being strengthened. In both cases, if transactions are undertaken with an intention to obtain a tax advantage (i.e. to pay capital gains tax rather than income tax), HMRC will have the ability to charge income tax rather than capital gains tax. 4 The new anti-avoidance provision dealing with liquidations (which applies both to UK companies and overseas companies) in particular is widely drawn. It will apply where a company is liquidated and the person who receives the distribution continues to carry on a similar activity (either directly or through another vehicle with which he is connected) to that which the company being liquidated previously carried on. This has the ability, for example, to affect family investment companies. It may no longer be possible to liquidate a family investment company and pay capital gains tax rather than income tax if the family members who receive the liquidation proceeds use those proceeds for the purposes of their own investment portfolios. One provision introduced following the consultation is that income tax cannot be charged on any liquidation distribution up to the amount of the shareholder’s capital gains tax base cost. Therefore if shares in a family investment company have recently been inherited by children from their parents, they could then liquidate the company without the risk of a significant charge to income tax. This will however be a factor which needs to be weighed in the balance in deciding whether a family investment company makes sense. ENTREPRENEURS’ RELIEF The 10 per cent rate applicable in cases where entrepreneurs’ relief applies will remain in force after 6 April 2016. Associated disposals The Government will allow entrepreneurs’ relief where an individual realises a gain on or after 18 March 2015 on a disposal of a privately-held asset which is used in a business, at the same time as the individual reduces their participation in the business in favour of family members. This measure is of potentially narrow application, but is being introduced to counter the negative impact of anti-abuse rules brought in in 2015 on those passing on family businesses. Individuals in this position should seek advice on making a backdated claim. Extension to goodwill The Government will allow entrepreneurs’ relief to be claimed on gains realised by an individual on the disposal of goodwill to a company in which the individual has less than 5 per cent of the acquiring company’s shares and voting power. This is a further measure designed to counter the effect of changes introduced in the Finance Act 2015 which meant that the claimant individual could have no connection at all with the acquiring company, and so this will apply to disposals on or after 3 December 2014. Again, where relevant, backdated claims for relief should be considered. INVESTORS’ RELIEF Entrepreneurs’ relief only applies to shareholders in unquoted trading companies if they are officers or employees of the company in question and satisfy a 5 per cent minimum shareholding and voting control threshold. A new relief is being introduced (for disposals after 6 April 2019) for individuals who are not officers or employees of the trading company in which they hold shares, i.e. they are merely investors. This will mean that each individual can realise up to £10m of capital gains on the disposal of such shares in his/ her lifetime and the gains will be taxable at a rate of 10 per cent (this being the lowest rate of CGT after 6 April 2016, see above). It should be noted that this relief will apply only to shares which are issued on or after 17 March 2016; it therefore only benefits new investors. The other conditions are that the shares must: be newly issued, having been acquired by the person making the disposal on subscription for new consideration. One particular restriction is that the relief will not be available if the shares are subscribed for in connection with the capitalisation or repayment of an existing loan due to the investor; be in an unlisted trading company, or unlisted holding company of trading group; have been held for a period of three years from 6 April 2016 (hence it will apply to disposals after 6 April 2019); and have been held continually for a period of three years before disposal. The relief is only available to individuals. Trustees will not therefore be able to benefit. The legislation contains rules for determining which shares are being disposed of where shares have been acquired in tranches over a period of time. Broadly speaking, the rules are designed 5 to put individuals in the best possible position to claim investors’ relief – e.g. if, at the time of a part disposal, an individual holds some shares which he has owned for three years and some which have been owned for less than three years and wants to make a claim for investors’ relief, he will be treated as disposing first of all of the shares which have been held for more than three years. On the other hand, if he does not want to make a claim for relief (perhaps because he is saving it for a later disposal), he will be treated as disposing first of all of those shares which have not been owned for three years. Individuals who are not domiciled in the UK and who claim the remittance basis of taxation may be able to combine investors’ relief with a claim for business investment relief so that there is no taxable remittance when the shares are subscribed for. There are complex anti-avoidance provisions which disallow the relief if the investor receives a payment or benefit from the company he has invested in (or a connected company) within the period of one year before the investment is made or three years after the investment is made. These rules are very widely drawn and, if they remain in their current form, will have the potential to deny relief in some perfectly innocent situations. Particular care will need to be taken where the investor (or a close relative) owns another company which is unconnected with the company in which the investment is made but which is nonetheless treated as a connected company for the purposes of the anti-avoidance provisions. As is the case with other reliefs such as business investment relief for non-domiciliaries and enterprise investment scheme relief, detailed advice will need to be taken by investors to ensure that they do not fall foul of the anti-avoidance provisions. OFFSHORE TAX AVOIDANCE AND EVASION The Government is continuing its drive to clamp down on all forms of tax evasion and aggressive tax planning and noncompliance. Tax avoidance The Finance Bill 2016 introduces new measures dealing with “serial” tax avoiders who persistently enter into tax avoidance schemes that are defeated by HMRC. These will include a special reporting requirement and a penalty of up to 60 per cent of the tax due for those whose latest return is inaccurate due to use of a defeated scheme. Tax avoiders’ names may be published, and those who persistently abuse reliefs may face restrictions on their access to certain tax reliefs for a period. The Government is also strengthening the Promoters of Tax Avoidance Schemes (POTAS) regime by including promoters whose schemes are regularly defeated by HMRC. The POTAS regime was introduced in order to build on the existing Disclosure of Tax Avoidance Schemes (DOTAS) regime, and the proposed changes to the POTAS regime are in line with recent extensions of the DOTAS regime (to, among other things, inheritance tax planning) and will expand the range of tax planning which is now notifiable to HMRC. We would however expect changes to the POTAS to have a very limited impact on bespoke, non-scheme based, tax and estate planning by individuals. New criminal offence In the Finance Bill 2016 the Government has introduced new criminal offences where there is a failure to declare offshore income and gains and the tax at stake, which remove the need for prosecutors to prove an intention not to declare the income or gains – i.e. a taxpayer can be guilty even if he is not dishonest. The only defence to these offences is for the taxpayer to show that he had a reasonable excuse for the failure in question. This highlights the need to take proper professional advice in relation to any offshore arrangements including how any potential liabilities should be reported, particularly (as is often the case) where the offshore anti-avoidance legislation is not clear and could be interpreted in more than one way. For the time being, trustees and executors are excluded from the scope of these criminal offences. On conviction, an individual can be imprisoned for up to 51 weeks and/or a fine can be imposed. Penalties based on asset values The Government is also introducing new civil penalties for deliberate offshore tax evasion. This will include the introduction of a penalty of 10 per cent of the value of assets on which tax is evaded or 10 x the tax evaded (whichever is less), and a new emphasis on the public naming of tax evaders. Penalties for those who facilitate evasion or non-compliance Those who assist taxpayers to avoid their obligations will also face civil penalties, including public naming. This will impact on professional advisers, those who manage offshore assets such as banks and investment managers as well as those who MACFARLANES LLP 20 CURSITOR STREET LONDON EC4A 1LT T +44 (0)20 7831 9222 F +44 (0)20 7831 9607 DX 138 Chancery Lane www.macfarlanes.com This note is intended to provide general information about some recent and anticipated developments which may be of interest. It is not intended to be comprehensive nor to provide any specific legal advice and should not be acted or relied upon as doing so. Professional advice appropriate to the specific situation should always be obtained. Macfarlanes LLP is a limited liability partnership registered in England with number OC334406. Its registered office and principal place of business are at 20 Cursitor Street, London EC4A 1LT. The firm is not authorised under the Financial Services and Markets Act 2000, but is able in certain circumstances to offer a limited range of investment services to clients because it is authorised and regulated by the Solicitors Regulation Authority. It can provide these investment services if they are an incidental part of the professional services it has been engaged to provide. © Macfarlanes March 2016 CONTACT DETAILS If you would like further information or specific advice please contact: NICHOLAS HARRIES PARTNER PRIVATE CLIENT DD +44 (0)20 7849 2576 email@example.com JONATHAN CONDER PARTNER PRIVATE CLIENT DD +44 (0)20 7849 2253 firstname.lastname@example.org ROBIN VOS SOLICITOR PRIVATE CLIENT DD +44 (0)20 7849 2393 email@example.com MARCH 2016 administer offshore structures such as trust and company service providers. Continued care will need to be taken to ensure that no action is taken (or omitted to be taken) which could be seen as encouraging, assisting or facilitating an individual’s offshore non-compliance. It is however a requirement before any penalty can be imposed that HMRC show that the person in question knew that his actions were likely to facilitate or enable the taxpayer’s noncompliance. Correcting past non-compliance Looking further ahead, the Government has confirmed that in the Finance Bill 2017 it will introduce a new legal requirement to correct past offshore non-compliance within a defined period of time, and with new sanctions for those who fail to do so. This will include inadvertent non-compliance as well as deliberate acts. These measures follow on from a number of legislative changes in recent years intended to discourage tax evasion and encourage compliance. These changes have included the introduction of the Liechtenstein Disclosure Facility, the concluding of the UK-Swiss agreement on tax co-operation, the introduction of criminal penalties for tax evasion, and the introduction of automatic exchange of information as a global basis based around FATCA and the Common Reporting Standard. The proposed measures will clearly have an impact on individuals whose tax affairs still remain non-compliant. The direction of travel is clear. HMRC has offshore arrangements firmly in its sights. Once it starts receiving information under the provisions for automatic exchange of tax information in 2017, we can expect a large number of enquiries to be opened in relation to assets held offshore and offshore structures. It is important that both clients and advisers/professionals look critically at these arrangements to ensure that they are properly structured and that historic liabilities are dealt with over the next 18 months.