Introduction
Residence
Domicile
Income tax
Capital gains tax
Inheritance tax
Planning
Individuals in the United Kingdom are subject to three main categories of direct tax: income tax, capital gains tax and inheritance tax. The application of these taxes depends on the individual's residence and domicile.
For example, in the case of a non-UK resident, non-UK domiciled individual who owns UK real estate, income (eg, rent) which arises from the property will be subject to UK income tax. As the property is based in the United Kingdom, it also forms part of the individual's estate for UK inheritance tax purposes, which means that on death, the property will be subject to a 40% inheritance tax charge.
A non-UK resident, non-UK domiciled individual will be taxed only on income arising in the United Kingdom. However, if the individual becomes a UK resident by virtue of spending too many days in the United Kingdom (or otherwise), he or she will be taxed on his or her income and gains arising in the United Kingdom and on any foreign income and gains, unless he or she elects to be taxed on the 'remittance basis', in which case only income or gains brought into or 'remitted to' the United Kingdom will be taxed.
If an individual becomes UK domiciled or deemed domiciled (due to the number of years in which he or she is a UK resident), inheritance tax will be chargeable in relation to certain lifetime transfers (eg, into a trust) and at 40% on the individual's worldwide estate on death.
The concept of residence is based on physical presence in the United Kingdom. The basic position is that if an individual spends 183 days or more in the United Kingdom during the tax year, or an average of 91 days in a tax year in the United Kingdom over four years, he or she will be tax resident in the United Kingdom. However, spending less time in the United Kingdom will not automatically lead to the conclusion that an individual is not a UK resident, as other factors linking the taxpayer to the United Kingdom will be considered. Other relevant factors are:
- the frequency and duration of an individual's periods in the United Kingdom;
- the purpose and pattern of his or her presence; and
- his or her connections to the United Kingdom.
A new statutory residence test is under consideration. It proposes a new presence and connections test and will clarify the position for individuals seeking to know where they stand. The changes are to take effect from April 6 2012.
Broadly speaking, an individual's domicile is where he or she has a 'permanent home' and intends to live permanently or indefinitely. Long-term residence may be a factor in determining domicile, but is insufficient in itself.
At birth, an individual's domicile of origin will be based on the domicile of his or her parents (primarily, his or her father). A domicile of origin can be displaced by the acquisition of a domicile of dependency (if an individual's parents acquire a new domicile while he or she is under 16) or a domicile of choice (if an individual resides in another country with the intention of residing there permanently and indefinitely). However, if an individual loses a domicile of choice by moving to a different country without forming the intention of living there permanently and indefinitely, his or her domicile of origin will revive if it is not replaced by a new domicile of choice.
An individual can be deemed domiciled in the United Kingdom for inheritance tax purposes if, for example, he or she has been resident in 17 out of the past 20 tax years.
If an individual is resident and domiciled in the United Kingdom, he or she will be subject to income tax on worldwide income as it arises.
If resident but not domiciled in the United Kingdom, an individual will be taxed on his or her income arising in the United Kingdom. He or she can elect to be taxed on the remittance basis in respect of foreign income, which means that he or she will be taxed only on the foreign income that he or she remits to the United Kingdom. If he or she has been resident in the United Kingdom in seven of the past nine tax years, a charge of £30,000 applies for using the remittance basis. This is due to rise to £50,000 for individuals who have been in the United Kingdom in 12 years if the past 14 years or more.
A non-UK resident is liable to income tax only on UK source income.
If an individual is resident and domiciled in the United Kingdom, he or she will be subject to capital gains tax on gains realised on disposals worldwide.
As is the case for income tax, if an individual is resident but not domiciled in the United Kingdom, he or she can elect to be taxed on the remittance basis. He or she will be taxed on foreign gains arising from disposals only when he or she remits those gains to the United Kingdom. All gains realised on disposals in the United Kingdom will remain subject to UK capital gains tax.
If an individual is non-UK resident, other than in certain specific circumstances, he or she is outside the scope of UK capital gains tax, subject to anti-avoidance provisions applicable to temporary non-residents.
Subject to the availability of the nil rate band, a maximum of £325,000 in 2011/12, inheritance tax is charged at 40% on death and at 20% on certain lifetime gifts. There is a sliding scale applicable to chargeable transfers made within seven years of death.
Since October 2007, it has been possible to transfer the unused portion (if any) of the nil-rate band of the first of a couple to die to the surviving spouse or civil partner for use against his or her taxable estate on the second death.
If an individual is UK domiciled or deemed to be UK domiciled, he or she will be liable to UK inheritance tax on his or her worldwide estate. If he or she is not UK domiciled, or deemed to be so for inheritance tax purposes, his or her UK assets only will be subject to inheritance tax.
Transfers between spouses are generally free of inheritance tax. However, there is a limit of £55,000 on transfers from a UK-domiciled spouse to a non-UK domiciled spouse.
Reliefs are available to reduce inheritance tax. The most important of these are business property relief and agricultural relief.
For individuals who are investing in, or temporarily moving to, the United Kingdom, it is possible to eliminate or significantly reduce many of these tax risks by appropriate structuring.
The most effective tax planning is usually done before an investment or a move is made, so advice should be sought at an early stage if possible.
For further information on this topic please contact Joanna Muirhead at Lawrence Graham LLP by telephone (+44 20 7379 0000), fax (+44 20 7379 6854) or email ([email protected]).