The new statutory residence test is more complicated than it may appear, says Lucy Edwards

A fractal is an object that, at first glance, appears to have a fairly simple shape. Closer inspection, however, reveals that its exterior in fact consists of tiny replicas of the overall form, in ever-decreasing scale. The more you examine a fractal, the more apparent its infinite complexity.

Complicated assortment

No doubt a tax practitioner could draw numerous analogies between this pattern and his or her field of work. One prime example is the concept of tax residence. Here, the underlying principle is simple: if you reside in the UK you will be subject to tax on some, if not all, of your income and capital gains. However, the rules for determining residency are derived from a complicated assortment of statute, case law and HMRC guidance. It is not surprising that the government’s proposal to introduce a statutory residence test (SRT) was universally welcomed.

The SRT’s objective is to remove the uncertainty of the residence fractal, which currently acts as a disincentive to those considering coming to the UK for business or personal reasons, or those looking to invest here, and so make the UK more internationally competitive. The draft SRT has been the subject of extensive commentary and its detail will not be restated here.

On 21 June 2012, the government published a Summary of Responses to the consultation, together with a revised draft SRT. Those who responded had widely pressed for certain aspects of the test to be relaxed, and the borders of the concept be refined, in order to make compliance easier for individuals and employers. The UK, it is argued, needs to show that it is open for business, and that the increasing number of international customers are able to structure their affairs with confidence.

The revised SRT contains some minor changes to the original proposals, but the broad framework remains the same. The changes demonstrate that, while the government acknowledges the need for the UK to be attractive for international business and investment, that goal is pitched against the competing objective of increasing tax collection for the Exchequer. The main changes include those set out below.

Automatic overseas test

• If an individual is resident in one or more of the previous three tax years, they can spend up to 15 days in the UK in the current year without regaining residence (increased from ten days to allow a two-week holiday).

• For individuals not resident in the last three years, the limit is increased from fewer than 45 days, to fewer than 46 days (to bring it in line with revised provisions in the sufficient ties test - see below).

• The definition of ‘full time work abroad’ is to be relaxed in one of two ways: either by increasing the limit on the number of working days to 25, or increasing the length of time that constitutes a working day from three hours to five hours.

Automatic residence

• The SRT provides that full-time work in the UK for a continuous period of nine months (with no more than 25 per cent of duties carried on outside the UK) would qualify someone as automatically resident. There will be further consultation on the benefit on increasing this period to twelve months.

Sufficient ties

• In spite of submissions that the distinction drawn in the SRT between ‘arrivers’ and ‘leavers’ is too harsh, the government has retained the classifications. The distinctions, it argues, reflect the principle that residence has an adhesive nature, and those who have built up significant connections with the UK should have to spend fewer days here than ‘arrivers’ in order to relinquish it.

• Some definitions of the connecting factors have been revised. For example, those that relate to minor children and accommodation are now less restrictive.

Other notable changes

• Days spent in the UK due to exceptional circumstances beyond a person’s control, such as a sudden or life-threatening illness or injury, may be disregarded from their day count, up to a maximum of 60 days in a tax year.

• The concept of ‘ordinary residence’ is to be abolished, except in relation to overseas workday relief. The government agreed with submissions that the expression in practice differed little from the term ‘residence’ and its removal would enable greater simplicity while affecting relatively few taxpayers (the Summary of Responses sets out a list of situations in which taxpayers could be affected). The concept is not abolished in relation to NIC contributions, which is surprising given the recent suggestions to merge that system with income tax.

• The existing concession for ‘split-year’ treatment will be put on a statutory basis and, subject to certain conditions, will also be available for accompanying spouses.

In summary, the draft SRT is a significant step towards a clearer definition of the concept of residence. However, the retention of ‘connecting factors’ as a feature of residence has been criticised by professional bodies that would rather see the SRT’s shape further refined to the simplicity of day counting only. That would bring the UK in line with the majority of other EU counties that employ a day-count method.

We are now close to the final version of the SRT. However, it is important to remember that the retention of the ‘arriver’ and ‘leaver’ distinction means that individuals will still need to refer back to the non-statutory rules to assess their status. Practitioners will still be reaching for the magnifying glass to examine the residence fractal for years to come.

Lucy Edwards is a solicitor at Penningtons