Deemed domicile

Indefinite non-domiciled status for UK tax purposes will become a thing of the past if the proposals in the summer budget and the government's recent consultation, 'Reforms to the taxation of non-domiciles' are enacted.

It is proposed that from 6 April 2017, non-UK domiciliaries who have been resident in the UK for at least 15 out of the last 20 tax years will be deemed domiciled in the UK for all taxes. The effect will be that such individuals will no longer be able to elect to pay tax on the remittance basis (RB) and will become liable to income tax and capital gains tax on their worldwide income and gains, and subject to inheritance tax on their worldwide estates.

A year of UK residence will include years spent in the UK while a minor, as well as split tax years. It is therefore possible that an individual could become deemed domiciled before reaching adulthood. However six years of non-residence will shake off deemed domiciled status. Returning to the UK after such a period of absence will start the 15 year clock again.

Changes to the tax status of non-domiciliaries with less than £2,000 of foreign income and gains in a relevant tax year are also proposed. Such individuals can currently be taxed on the RB without paying the relevant charge for that tax year. If this exemption is removed, this category of tax payers could pay UK tax for the first time.

Offshore trusts

Under the proposals, non-domiciliaries can still protect their non-UK assets from IHT by transferring the assets into an offshore trust before they become deemed domiciled under the new 15 year rule. The assets comprised in the offshore trust will remain excluded property for IHT purposes and thus exempt from IHT.

However, distributions or benefits received from the offshore trust by a deemed domiciled individual will be subject to UK taxes, regardless of whether the distribution or benefit is received in the UK or offshore. Crucially, this means that benefits, typically rent free occupation of a UK residential property received from a so-called 'dry trust' that does not generate income or gains, may now be subject to UK taxation based on the market value of the benefit received.

These rules may apply to all non-domiciliaries who are resident in the UK, rather than limiting the application to those who have become deemed domiciled under the new 15 year rule. If the non-domiciliary has not yet met the new 15 year rule, it would be possible for them to avoid a UK tax charge by receiving distributions and enjoying benefits offshore, as is currently the case. Draft legislation is expected shortly.

Born in the UK, but moved abroad?

The proposals include a substantial change to the treatment of individuals born in the UK with a UK domicile of origin, who have acquired a domicile of choice outside the UK and then return to the UK. Such individuals will be deemed domiciled in the UK in any year in which they are UK resident.

This will affect a significant number of individuals who have previously moved abroad and developed sufficiently strong ties to acquire a non-UK domicile of choice. Those who return to the UK for short-term work assignments will be particularly affected.

These proposals could alter the taxation of existing trusts as it is proposed that trusts previously established as excluded property settlements, could become relevant property trusts during a tax year when the settlor is resident.

Consultation is taking place on how to mitigate the impact of short-term residency on trusts. Current suggestions include granting a two year grace period during which these changes would not apply, and apportioning any ten year charge that arises as a result of these changes.

Trustees will need to be particularly cautious when approaching ten year anniversaries, and consider the implications of a settlor's residence and domicile status at that time.

The proposals are a significant departure from current practice. Individuals and trustees will need to take detailed advice when the draft legislation becomes available.

James d'Aquino is a senior associate in the private client team at Penningtons Manches