Recent research by CBI and KPMG reveals that eight in ten business leaders in London believe that the Chancellor’s handling of the non-dom issue has damaged Britain’s reputation for tax stability and planning. Tax partners David Kilshaw and Nina Amin review the recent changes for non-UK domiciled individuals and the challenges they face.

There is no doubt that PR damage has been done through the changes to non-dom legislation.  The CBI/KPMG London Business Survey in June 2008 found that, when asked about the new £30,000 fee for non-doms who opt out of paying UK taxes on overseas income, 70% of respondents said it would adversely affect London’s attractiveness as an international business destination.

So given all the political movement, change and movement back, it is important to understand what has not changed.  The landscape, in many ways, remains refreshingly familiar.

What has not changed?

An individual who is resident in the UK but not domiciled can still take advantage of the so called “remittance basis” of taxation.  This means that he will not be subject to UK tax on his overseas income and gains unless he remits those monies to the UK.

Offshore trusts are still a useful tool in the non-domiciled individual’s armoury.

So what has changed?

1 The remittance basis is only available if a taxpayer chooses and elects to benefit from it (subject to a £2,000 de minimis).

2 An individual can only benefit from the remittance basis, once he has been resident in the UK for 7 or more of the last 9 tax years, if he chooses to pay a charge of £30,000 per annum. However, if he pays the £30,000 this only prevents the overseas income and gains of the individual being taxed as they arise. It does not confer an exemption from tax.  Accordingly, if the monies are remitted to the UK, tax will arise at that stage.

3 Changes have meant that it is more difficult to remit money to the UK without triggering a tax liability.  Many of the ways previously legitimately available to non-domiciled tax payers to avoid tax on remitting overseas profits have been closed by HMRC.

An individual will have to work harder now to make sure that he can enjoy overseas profits in the UK without a tax liability.

The residence rule An individual will still be tax resident in the UK in a given tax year if he spends 183 days or more in the UK in that year or 91 days or more on average over a 4 year period.  However, in the past days of arrival and departure did not count towards this total by virtue of HMRC’s practice.

Now, if an individual is in the UK at the end of a day (midnight) that day will count towards his total unless he departs on the following day and shows that he was purely in transit and not engaged in activities substantially unrelated to his travel through the UK.  HMRC have given examples of how they think this transit exemption will operate but not how it will be policed.  If a tax payer receives a call on his mobile, it may well be the case that he will be tax resident if it is his business partner ringing him but not if it is his spouse.  The moral of the tale may be to answer all calls “Hello darling”!

Practical implications

These changes have significant practical implications for tax payers and their advisors.  Many of the familiar rules on how monies should be held in bank accounts have been modified. Failure to adapt to the new rules could result in unexpected and deep-cutting tax charges.

For UK resident but non-UK domiciled tax payers, there are two absolutely fundamental mantras: Do not take any significant action until you have spoken to your accountant, lawyer and banker!  Keep records.  You need to be able to show where your monies have come from and the burden of proof is on you.

£30,000 to pay or not to pay?

At present rates, an individual will require un-remitted overseas income of £80,000 or overseas gains of £176,000 to make this worthwhile (it being recognised that these are general figures which need to be verified in any particular case). For married clients, therefore, the temptation may be to allocate all the assets to one spouse, so that only one spouse need pay the tax bill, saving £30,000.  However this might prove expensive in the longer term in the event that the marriage ran into sufficient difficulties so as to require the advice of a divorce lawyer!

As well as considering the economic consequences of claiming the remittance basis or not, a tax payer who does not claim will have to disclose his worldwide income and gains to HMRC.  .

If a tax payer decides to pay the £30,000, he needs to decide how to pay it.  The position here is complex.  Suffice to say, the tax payer is required to nominate the overseas income or gains by reference to which he proposes to pay the tax.  This nominated sum is then taxed on an arising basis.

Nina Amin, tax partner at KPMG explains; “In the most straightforward of cases, the position is simple.  The client has overseas income of £75,000 which he “nominates” for these purposes.  This £75,000 is then taxed on an arising basis and that provides the additional tax bill required by HMRC (40% of £75,000 giving £30,000) to satisfy the tax man’s demands.

“The complexities arise if any part of this £75,000 is then remitted to the UK.  In the event that it is all of the tax payer’s overseas income and gains are then brought into a very complex web of remittance rules.  Before the client knows it, he may find that monies which he thought he could remit to the UK tax free, trigger a significant tax bill, simply because he has remitted £1 of his nominated income or gains.

“This “nomination game” needs to played with a tax advisor close by!  Failure to play the game by HMRC’s rules could result in significant tax bills”, Nina concludes.If a client has had offshore accounts containing mixed funds at 6 April 2008, the position is more complex.   In the past, monies could be brought to the UK from such funds without a tax liability.  This privilege has now been withdrawn.

Even in the early years of living in the UK, before the £30,000 charge becomes relevant, the new regime will have an impact on the non-domiciled tax payer’s lifestyle.  Gone are the days where monies can readily be brought into the UK by a series of well trodden paths i.e.  a gift to a spouse, who could then bring the money to the UK to benefit the wider family.  From now on, this will only be possible if gifts are made to more remote donees such as parents or adult children.  Even then tightly drawn anti-avoidance provisions may result in a taxable remittance.  Similarly, the days of purchasing a property in the UK by using offshore funds to pay interest on an overseas mortgage without a UK tax liability are gone.  Some existing mortgages are “grandfathered”, but for others looking to fund a UK property purchase via overseas monies, the position is now much more difficult.

In the first tax year in which a claim for the remittance basis is made, the tax payer and his advisor will also need to make an irrevocable decision as to whether or not to elect for capital losses made on non-UK assets to be allowable.  Whilst at first glance the decision might appear to be “yes”, again the rules are complex and the decision will have far reaching consequences.  The difficulty will be determining an approach based on the tax payer’s current assets and intentions which may change in the longer term such that making an election or not may prove to have been the wrong choice.

Have the changes damaged the UK as a home for non-doms?

There is currently little evidence to support a conclusion on this important question.  The view of the writers, based on discussions with clients and bankers who deal in the world of non-doms, is that any long term damage is minimal.  HMRC retreated sufficiently far down the path to restore some degree of comfort.

Nina Amin suggests; “Perhaps the greatest contribution that HMRC could make in keeping the UK attractive would be to simplify the legislation.  The new rules incorporate too much “red tape”. Tax payers will be expected to increase significantly the number of records they need to maintain.”

Non-UK trusts continue to be a key tax planning tool for UK resident but non-domiciled individuals.  If such an individual holds a UK asset in his own name (eg shares in a UK company) he will pay capital gains tax when he sells the asset at a profit.  In contrast, there would be no immediate capital gains tax charge if such an asset was sold via an offshore trust, the charge being deferred at least until benefits come out of the trust. In addition, gains made on non-UK assets will not come into the settler’s net for the purpose of deciding whether or not he should pay the £30,000 charge.

Trusts also still offer inheritance tax advantages, especially for a non-domiciled individual who has been in the UK for less than 17 years.

The UK landscape has changed quickly but not as dramatically as originally feared.  The concepts of residence and domicile remain critical to UK taxation.

Changes to the non-dom rules came into effect from 6 April 2008