And finally, in our short series of blogs looking at the Summer Budget changes after a bit of thought, we come to the change announced for residential property owned by Non-doms.
To recap the history briefly, if you go back to 2011, a Non-domiciled, Non-resident individual was treated very generously by the UK tax system when investing in UK property, whether for investment or personal use. As a Non-resident, they would be exempt from UK Capital Gains Tax (“CGT”). For Income Tax (“IT”) purposes, they would be subject to tax on UK-source income and this would be enforced by collection at source under the Non-resident Landlords scheme, but expenses, including maintenance and loan interest, could be offset against this income, and if the owner earned enough to be liable to higher rate IT on the net profit, they could always own the property through a company, instead, and pay tax only at corporation tax rates. The normal problem for UK-based investors, of course, that you get taxed a second time when money is extracted from the company by way of dividends or employment income, is of no concern to non-residents owning a company based in a tax-free offshore centre. Corporate holdings also had a benefit for Inheritance Tax (“IHT”) purposes. A non-domiciled individual holding property in their own name would be exempt from UK IHT on their assets abroad, but subject to IHT on property in the UK when they died. If the asset was shares in a foreign company, however, there would be no such problem. Property holding companies also had the advantage that they shielded the identity of the owner.
With all these advantages over UK resident owners of property (who are also voters), it is not surprising that these practices came under political attack. First, we had the Annual Tax on Enveloped Dwellings (“ATED”). An annual tax introduced with effect from 2012 on all UK residential property owned by companies, this imposed an annual charge, as well as CGT for any holding period after 2013, on properties owned by a company, partnership or collective investment scheme, (rather bizzarely-labelled as “Non-natural persons”) whether the entity was UK or foreign resident, if the property was worth over £2 million. There were exceptions for commercial letting businesses, hospitals, hotels, etc so that foreign investors making genuine business investments in the UK would not be put off. The government apparently fondly expected wealthy foreigners who owned their residential properties in the UK through such structures to “de-envelope” and own the property in individual names, rather than pay the ATED charges ,so that we could then all find out which Middle Eastern sheikh or drug baron owned which high-value London property. This did not, in fact, happen in most cases, though. Instead, owners were generally willing to pay the ATED charge as the price of retaining confidentiality and the other advantages of using such vehicles.
Next came an increase in ATED rates and lowering of the threshold, and the introduction of CGT on all UK residential property owned by foreign residents, even if held in their own name directly or through foreign-resident trustees, with effect from April 2015.
There still has not been a rush to sell UK property by foreign owners, though, because main residence exemption may apply if a property is directly held and not let, gains taxes would also apply in many other countries, and being taxed on investment gains can still leave you with a substantial net profit without compromising confidentiality and without major taxes on the death of the ultimate owner if it is held through a company or, more commonly, through a trust which owns the shares in the company.
It is this last aspect which is the subject of the most recent attack, in the 2015 Summer Budget, which focuses on IHT. The government appears to have been particularly incensed by certain individuals (naming no names, here) who originated in the UK and were brought up here and had English-sounding names and accents who had managed to establish a “domicile of choice” by making an apparently final decision to go and live in another country, only to then return, after having settled their wealth into an “excluded property trust” (a holding structure for assets of non-domiciled people moving to the UK and concerned that, if they become UK domiciled, their foreign wealth will be subject to IHT here, which allows the assets to continue to be treated as foreign assets of a non-domiciled person even if that person’s own position changes). These “boomerang non-doms” could then happily sit in a London property owned by a foreign trust or company controlled by them, knowing that it would not be taxed as part of their estate on death. The new proposal is therefore that all UK residential property should become chargeable for IHT purposes, just as it is all now subject to CGT. This is not, however, straightforward and a more detailed consultation paper was promised “after the summer recess” which has, predictably, not appeared yet at the time of writing this article. Tricky one to write, I imagine.
The government has said that intends that the legislation and concepts used for the ATED charge should be used for the new IHT charge, although without the exemptions for property letting businesses, etc. and without regard to the threshold (which is now only £500,000 with effect from April 2016, anyway.) But – hang on – IHT is chargeable when a person who owns assets dies,isn’t it? What if the “owner” is a company which does not die? The Government’s answer is that the charge will be triggered by the death of the person who owns the shares. But what if many family members hold the shares between them, or the shares are held by another (non-transparent) company in another jurisdiction in a complicated structure, or by a trust, the details of which are onfidential? The government acknowledges in its official guidance that “further complications will arise” without suggesting how these should be unravelled. It clearly rather hopes that foreign holders of UK property will simplify things by “de-enveloping” voluntarily as there is a vague reference to smoothing the path of people who want to do this, but are put off by the CGT consequences of transferring from a company to an individual. What would make them do so, however? Does that mean that ATED charges will rise very significantly in the future? I am very much afraid it does, yes.