If you are advising non-resident clients on buying a property here, you need to know what UK tax issues can arise. Many clients are surprised to hear they may have to pay UK tax, even if they do not live in the UK. This article is intended to give a brief overview of the different potential tax charges facing non-resident owners of UK property.
The basic rule is that UK rental income is taxable here, no matter who owns it. So if your client is planning to rent out the property then UK income tax will be due. The rate will vary depending on who owns the property. The client may own the property personally, via a company or through a trust.
Trusts pay the highest rate of tax on UK source rental income (50% from 6 April 2010) and companies pay the least (20%). The client’s personal income tax rate will depend on how much income s/he receives from the UK and will vary from 20% – 50% (once the new highest rate comes in on 6 April 2010).
Whoever owns the property, they should consider registering under the Non-Resident Landlord provisions so rent can be paid gross. The owner will still have to pay the income tax but only at the end of each tax year and after deducting expenses such as any agent’s fee, service charges and (if the property is being purchased to let out) mortgage interest. Otherwise, the tenant (or any UK agent acting for the non-resident owner) will have to deduct tax before paying the rent each month.
Capital gains tax
If the client is not resident (or ordinarily resident) in the UK then s/he should be outside the scope of capital gains tax (‘CGT’). Non-residents do not pay capital gains tax, even on the sale of a UK property (unless it is sold through a UK situated trade). The same principles apply for offshore companies and overseas trusts.
Unfortunately, there is no statutory definition of residence in the UK, so the client will need specific advice on his/her residence status. It’s worth also pointing out that there can still be a charge to CGT if the client is only temporarily non-resident. If the client is non-resident for less than five full tax years, any gain arising during that period is taxed upon return to the UK under s10A of the Taxation of Chargeable Gains Act 1992.
Many clients are unaware that UK inheritance tax applies to all properties in the UK, no matter where the owner is resident. For UK domiciled clients (even if non-resident) inheritance tax (‘IHT’) is levied on their worldwide assets. For non-domiciled clients, IHT is only applicable to their assets in the UK e.g. their property here. The same rate of IHT applies either way, at 40% above the nil rate band threshold (currently stuck at £325,000).
There is an exemption for assets passing between spouses/civil partners but this can be limited in certain circumstances. If the donor (or deceased) client is UK domiciled but the recipient spouse is not, then the spouse exemption is limited to just £55,000.
Owning a UK property via an offshore company may help reduce the impact of IHT for those clients who are non-domiciled. The clients are treated as owning an offshore asset (the overseas company shares), rather than a UK situated assets. Provided the client does not become UK domiciled (or deemed domiciled) in the UK, their non-UK assets will be outside the scope of IHT. It does not matter that the company in turn owns property in the UK.
Owning a UK property directly via an offshore trust can be expensive. There is now an immediate 20% IHT charge (above the £325,000 threshold) whenever assets are put into a trust. This applies even if the trust is based overseas and is set up by a non-domiciled client: the IHT charge would be calculated on the value of the UK situated property going into the trust.
The trustees will also have further IHT charges to pay: on every tenth anniversary of the trust’s creation and whenever the UK assets come out of the trust. This is currently at a much lower rate (maximum 6%) on any excess over the trust’s own nil rate band.
Many clients are also unaware of the further tax due when buying a UK property. Stamp Duty Land Tax (‘SDLT’) applies to all UK property purchases, irrespective of the residence of the purchaser. The rate of SDLT varies from 1% to 4% depending on the value of the property. This is payable by the purchaser of the property.
There are some potential ways of reducing the SDLT charge, if the property is very valuable, but these can be viewed as being at the ‘robust’ end of tax planning!
If a company already owns the property that the client wants to buy, s/he could decide to purchase the company’s shares. Because there would be no actual change of property owner (the company owns the property both before and after the purchase of the shares) there would be no SDLT charge. The client may want to check the company has not traded and has no liabilities. In some cases, there can be a serious lack of accounting information in the offshore country where the company was incorporated. This may put clients off buying the company.
Alternatively, the client may wish to set up a company to purchase the property, so there is no SDLT charge on any future sale. Although the SDLT is still payable by the company purchaser now, it may be possible to charge more in the future for the company shares because of the SDLT saving.
Owning via a company can help reduce the exposure to IHT but care is needed if the client plans to live in the property. Then direct ownership may be better, perhaps with insurance to cover the future IHT bill. If a client occupies a property that is owned by a company, s/he may have to pay income tax on the ‘benefit’ of living there rent-free. Also offshore companies must ensure their management and control stays outside the UK. Any offshore company that is managed and controlled from within the UK becomes UK tax resident. It is then liable to UK tax on its worldwide profits. It can be particularly difficult to ensure the occupier of a property does not try to control the company or its assets (e.g. by refurbishing the property without the company’s permission).
Whether a trust is right for your client depends on a number of factors, including his/her tax position and succession plans. Offshore trusts should ensure they do not directly own any assets in the UK, due to the IHT charges mentioned above. Alternatively, the value of the UK assets could be brought under the nil rate band threshold e.g. by borrowing against the property to reduce its net equity.
An offshore trust could instead hold shares in the offshore company that in turn owns the UK property. This type of structuring can be expensive to set up and run however having trustees own the company shares may make it easier to ensure the offshore company is properly managed and controlled outside the UK.
For non-residents, owning a UK investment property via an offshore company can help reduce the tax bill on the rental income and may help shelter the value of the property from IHT. There can also be SDLT savings by purchasing shares in a company that owns the property.
Being non-resident should mean the client doesn’t need to worry about CGT, unless they are only temporarily resident outside the UK. Non-resident companies and trusts should also be outside the scope of CGT, even on the sale of a UK situated property.
However there is no ‘right’ answer to how a non-resident should purchase UK property. Much depends on their personal situation and, in particular, whether they intend to live in the property.