The Court of Appeal has ruled that non-UK assets of an excluded property trust remain excluded property even if transferred to, and then back from, a non-excluded property trust. While in theory, elements of the decision (in particular, as to when a settlement is treated as ‘made’) could be helpful in other circumstances, the Court emphasised the “highly unusual” facts of the case.
Barclays Wealth Trustees (Jersey) Limited & Dreelan v HMRC (2017)
Position in light of the decision
It remains the case that:
- non-UK assets held in a trust established by a non-UK domiciled individual (“non-dom”) who is not UK deemed domiciled are excluded property for UK inheritance tax (IHT) (i.e. they are not subject to UK IHT). This is the case even if the settlor subsequently becomes domiciled in the UK or deemed domiciled in the UK
- if an individual sets up two trusts – Trust 1 and Trust 2 – both of which are set up at a time when he is non-dom and not UK deemed domiciled for IHT purposes, non-UK assets transferred from Trust 1 to Trust 2 will be excluded property even if the individual has become UK domiciled or UK deemed domiciled at the time of the transfer of assets between the two trusts
- once a non-dom has become UK deemed domiciled he should not make additions to any trust set up by him before he became UK deemed domiciled.
This is subject to the new rules, which took effect from 6 April 2017, for trusts set up by non-doms who were born in the UK with a UK domicile of origin and are currently UK resident, and the new rules relating to UK residential property interests.
Facts (as far as relevant)
- Mr Dreelan created a Jersey discretionary settlement on 21 June 2001 (the “2001 Settlement”) when he was non-dom and not UK deemed domiciled for IHT purposes, meaning that non-UK assets held in the 2001 Settlement were excluded property.
- Subsequently, but at a time when he was still non-dom and not UK deemed domiciled, Mr Dreelan transferred shares in a UK company (the “UK shares”) to the 2001 Settlement.
- Mr Dreelan then created a second trust in 2008 (the “2008 Settlement”) after he had become UK deemed domiciled. As a result non-UK assets held in the 2008 Settlement were not excluded property for IHT purposes.
- The UK shares were transferred from the 2001 Settlement to the 2008 Settlement on the day the 2008 Settlement was created. The UK shares were subsequently sold.
- Shortly before the first 10 year anniversary of the 2001 Settlement, funds representing the sale proceeds of the UK shares were transferred from the 2008 Settlement back to the 2001 Settlement and placed in a non-UK bank account.
The question for the Court of Appeal was whether the funds in the non-UK bank account were excluded property and so outside the charge to IHT on the 10 year anniversary of the 2001 Settlement.
Relevant IHT rules
A discretionary trust is, broadly, subject to a charge to IHT on every 10 year anniversary of the commencement of the trust and on property leaving the trust. However, non-UK assets held in a trust established by a non-dom who is not UK deemed domiciled are excluded property for IHT purposes (and so not subject to IHT on a 10 year anniversary). This is the case even if the settlor subsequently becomes domiciled in the UK or deemed domiciled in the UK.
Where property is transferred from one trust (Trust 1) to another trust (Trust 2) the transferred property will only be excluded property (assuming it is non-UK property), for IHT purposes, if:
- the settlor of Trust 1 was non-dom and not deemed domiciled in the UK at the time Trust 1 was made; and
- the settlor of Trust 2 was non-dom and not deemed domiciled in the UK at the time Trust 2 was made.
It was accepted that had the UK shares remained in the 2001 Settlement at all times then the funds in the non-UK bank account, that represented the sale proceeds of those shares, would have been excluded property on the first 10 year anniversary of the 2001 Settlement.
It was also agreed that had the sale proceeds remained in the 2008 Settlement they would not have been excluded property even if they had been held in a non-UK bank account because Mr Dreelan was UK deemed domiciled at the time the 2008 Settlement was made.
The key question was, therefore, whether or not the funds in the non-UK bank account of the 2001 Settlement (representing the sale proceeds) were excluded property. The answer depended on when that settlement “was made”.
HMRC argued that the time when “the settlement was made“ means the time when property becomes settled on a trust and that as a result when the sale proceeds were transferred back to the 2001 Settlement (in early June 2011) that was the time at which the “settlement” of those funds was made. As Mr Dreelan was UK deemed domiciled at that point the funds could not be excluded property for IHT purposes. HMRC was concerned with the wider policy implications of a finding that a settlement was “made” when it was first constituted even where substantial assets were added much later. HMRC pointed out that such a finding could be construed as permitting a settlor to settle assets on an existing trust after he had become UK deemed domiciled and for those assets to be excluded property.
The Court of Appeal held that the 2001 Settlement should be treated as a single settlement for IHT purposes (constituted by a number of separate dispositions of property to the trustees) and that that single settlement was “made” on 21 June 2001 at a time when Mr Dreelan was non-dom and not deemed domiciled in the UK. As a result the funds held in the non-UK bank account were excluded property for IHT purposes, and not subject to IHT on the 10 year anniversary.
Conscious that this finding opened up the possibility of a settlor who has become UK deemed domiciled settling further property on an existing trust (established before he became deemed domiciled) and that property being treated as excluded property the Court of Appeal made it clear that the decision was reached on the “highly unusual” facts of the case. The Court of Appeal went on to state that different considerations may arise where a settlor makes a settlement when he is non-UK domiciled, later acquires a UK domicile, and then makes further substantial transfers of property into the settlement – the Court made it clear that it was expressing no view on the question whether the same result as in this case should be reached in cases of that type because wider policy considerations may then be engaged.
It is clear that this decision does not change the advice that once a non-dom settlor has become UK domiciled or UK deemed domiciled:
- he should not add any further property to a trust set up by him when he was non-dom and not UK deemed domiciled; and
- the trustees of an existing trust set up by him when he was non-dom and not UK deemed domiciled should not use their power of appointment to create a new trust. If the settlor has died, the trustees of a trust set up by him when he was non-dom and not UK deemed domiciled should check his domicile status at the date of his death before using their power of appointment to create a new trust.