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Is it time to push the envelope (or unwind the trust)?

13 May 2020

The UK Government has, over the past few years, substantially revised the tax rules relating to the ownership of residential property in the United Kingdom held indirectly by non-domiciled individuals or excluded property trusts.

The UK government continues to focus on the taxation of commercial and residential real estate particularly where such assets are held indirectly or by non-UK resident and/or domiciled individuals. The recent changes have a number of practical implications for those who purchase, hold or sell UK property. If you are a foreign domicile person and you have residential property in the United Kingdom, whether or not it is occupied by you, your family or paying tenants, proposed changes to the UK's inheritance tax regime may mean that it is time to review your current arrangements with respect to that property. This is particularly so if the property is held through an offshore company or trust.

This article explains some of the issues and suggests options that may be appropriate for your personal wealth and succession planning.

Why is this relevant?

In brief, some of the changes bring all UK residential property held directly or indirectly by foreign domiciled persons into charge for IHT purposes on the occurrence of a “chargeable event”. This includes residential property held through offshore companies. A “chargeable event” includes:

  • The death of an individual who owns the property holding company’s shares (the Shares), wherever resident
  • The gift of the Shares into a trust
  • The ten year anniversary of the trust
  • A distribution of the Shares out of a trust
  • The death of the donor within seven years of a gift of the Shares to an individual; or
  • The death of the donor or settlor where he benefits from the gifted UK property or within seven years prior to
  • His death – the reservation of benefit rules will apply to a company owning UK property in the same way as
  • The rules currently apply to UK property held by foreign domiciled persons and generally to UK domiciles.

These IHT rules apply to all UK residential property regardless of its value and whether it is occupied or let. However, it is not intended to change the position for non-UK domiciled individuals or excluded property trusts in relation to UK assets other than residential property, or for non-UK assets. The reforms will also not affect those persons domiciled in the UK..

Pushing the envelope?

Historically, offshore companies have been used as property holding vehicles, primarily so that a sale of the property which was structured as a sale of the shares in the offshore company was not subject to Stamp Duty Land Tax (SDLT). Offshore trust structures have also provided IHT and capital gains tax benefits for non-UK domiciled individuals. The Annual Tax on Enveloped Dwellings (ATED) was introduced to target occupied residential property (as opposed to property let to an unconnected person) held through a corporate vehicle (known as “enveloping”). The introduction of the ATED did not lead to the predicted deluge of offshore company liquidations as many non-UK domiciled individuals and their advisors concluded that the IHT benefits of their existing arrangements outweighed the annual charge.

It is widely thought that the financial success of the ATED led to research into the reasons behind enveloped property and the conclusion that IHT planning is a primary concern for many non-UK domicilliaries, hence the new changes which will effectively remove the “block” on IHT for those using offshore structures to hold their residential property in the UK. It is likely that the removal of the IHT benefit will tip the balance and result in a widespread review of enveloped structures.

Non-UK domiciled individuals and trustees will need to be aware of the new circumstances in which a chargeable event for inheritance tax purposes may be triggered. For example, the transfer of company shares into or out of trust, where the company holds UK residential property. Advice will be essential in any transaction involving an entity whose value is derived at least partly from UK residential property.

So… for some, removing the envelope will be an option they wish to consider and this is where Harneys can certainly help. Our highly experienced team of lawyers and fiduciaries can provide clear and concise advice to clients and guide them through the process from an offshore perspective and work together with your tax and UK property advisers to ensure a seamless transition through the process.

For other non-UK residents some of the benefits of holding UK property through an offshore company will remain. Those holding dwellings which are let will benefit from the rental income being subject to the basic rate of income tax (20 per cent) rather than the individual’s marginal rate if held directly. A lower rate of capital gains tax may also be available.

It is clear that each structure should be reviewed holistically in advance of the April 2017 deadline in order to ensure that it continues to meet objectives.

What can we do?

We can draft the legal documents required to voluntarily wind-up the offshore holding company and we can also provide comprehensive liquidation services to ensure that all creditors are identified and paid before the UK property is distributed efficiently and effectively in accordance with your tax advice following which the offshore company can be formally dissolved.

As a leading provider of trustee and fiduciary services to HNWIs and their families, Harneys Fiduciary works closely with international businesses, individuals and professional intermediaries to ensure our clients’ fiduciary structures meet their objectives.