Legislation in respect of many of the Budget announcements (and other measures previously announced) has been published in the Finance (No. 3) Bill 2017-19.
As mentioned in our initial briefing note, whilst there had been rumours that wide-ranging changes would be announced, these did not materialise. Nonetheless, there are still a number of points for private clients to consider, and we have set out a more detailed analysis of the key measures below.
Income and capital gains tax: rates and allowances
The income tax personal allowance will rise from £11,850 in the current tax year to £12,500 and the higher rate threshold will also rise to £50,000 (up from £46,350). These changes take effect from 6 April 2019 – one year earlier than planned.
The capital gains tax annual exempt amount will increase in line with the Consumer Prices Index to £12,000 (from £11,700) for individuals and personal representatives and £6,000 (from £5,850) for most trustees in the 2019/20 tax year.
Income and capital gains tax rates are unchanged.
Inheritance tax: residence nil-rate band changes
The residence nil-rate band was introduced on 6 April 2017 and, in broad terms, allows an additional amount (up to £175,000) to pass free of inheritance tax on death where a residence passes to direct descendants of the deceased. The legislation is extremely complex but one significant restriction is that the benefit of the relief is gradually removed if an individual’s estate exceeds £2m.
Two changes to the residence nil-rate band were announced in the Budget and apply to claims made for estates where the deceased died on or after 29 October 2018. These changes are purely technical and correct anomalies in the legislation. Although complex, this relief is valuable for those whose estates are less than the threshold (the saving can be up to £140,000 for a married couple) and so it is worth taking advice to ensure that wills are drafted to make maximum use of the relief.
Inheritance tax: non-domiciliaries and deemed domiciliaries - treatment of additions to trusts
The Government has announced that it intends to legislate in the Finance Bill 2020 to ensure that all property which is added to a settlement after a settlor becomes deemed domiciled in the UK is subject to inheritance tax. The legislation may also mean that property transferred from one trust to another after the settlor of the recipient trust becomes deemed domiciled will be subject to inheritance tax, but this is less clear from the Government's announcement.
This proposed legislation is intended to counter the case of Barclays Wealth Trustees (Jersey) Limited & Michael Dreelan v HMRC, which cast doubt on HMRC's view that any property added or transferred to a settlement after the settlor becomes deemed domiciled is subject to inheritance tax.
Any deemed domiciliaries considering reorganising their trusts should think about this before the changes take effect in April 2020.
We will be sending a more detailed note on these proposals next week.
Probate fee changes
Whilst not part of the Budget, in a written statement on 5 November, the Government announced proposed changes to probate fees. The current fee payable on application for a grant of representation is £155 where the application is made via a solicitor and £215 where the applicant applies personally.
Last year, the draft Non-Contentious Probate Fees Order 2017 (which sought to introduce fees based on the value of the estate up to a maximum fee of £20,000) was considered by the House of Commons Joint Committee on Statutory Instruments as potentially being ultra vires. The 2017 proposals were heavily criticised as introducing a tax by the back door and being an abuse of the parliamentary process.
The new proposals again suggest that the fee payable when applying for a grant should be based on the value of the estate, with a maximum fee of £6,000 applying to estates worth over £2m.
There has been no information on the timescales for the new fee proposal, and the proposals have already generated significant media attention. The 2017 proposals were scheduled to apply to applications made to the Probate Registry from a certain date. Therefore, it is prudent to submit probate applications for high-value estates as soon as possible.
Capital gains tax – deferral of exit charges
When a UK trust leaves the UK tax net because the trustees cease to be UK resident, there is an immediate capital gains tax charge on any unrealised gains in respect of the trust assets.
With effect from 6 April 2019, trustees will be able to opt to spread the cost of this so-called “exit charge” over six years in equal annual instalments if the trustees become resident in another EEA Member State and the trust assets are used for economically significant activities carried on there.
The introduction of this new deferral regime follows a recent EU case in which it was held that the UK’s exit charge for trusts contravenes EU law. Although EU law does not prohibit Member States from imposing exit charges, these must be proportionate to the objective of preserving their taxing rights, and the UK regime was found to be disproportionate.
Leaving to one side the question of what impact Brexit may have, the new deferral regime is welcome but nevertheless somewhat limited. In particular:
- unlike in some Member States, the payment of the tax cannot be deferred until the assets themselves are sold. This could cause issues for many trusts with illiquid assets and will likely continue driving the debate as to whether the UK regime is still not compliant with EU law;
- it is unclear how the requirement that the trust assets must be used for an economically significant activity will apply in practice; and
- interest is payable from the date the charge arises until the final instalment is paid.
In light of this, clients who are planning to “export” a UK resident trust should consider whether deferring the move until after 6 April 2019 would carry a cash flow advantage.
More importantly, clients and their advisers should ensure that they are keeping a close eye on the residence of trusts. Accidentally importing a trust into the UK will bring the trust within the UK tax net and cannot be retrospectively reversed without triggering a potentially costly exit charge, which the new deferral regime does little to alleviate.
At present, whilst there are exit charges when a trust or a company ceases to be UK resident, there is no exit charge when an individual ceases to be UK resident. It is however possible that an exit charge for individuals could be introduced if there were a change in Government. It is clear from the changes the Government is making to the exit charge for trusts that an individual would not be able to avoid such an exit charge simply by moving to another EU state. The only benefit might be that payment of the exit charge is deferred.
Extension of offshore time limits for assessing tax
HMRC are being given significantly longer time limits to assess losses of tax involving an “offshore matter” or an “offshore transfer which makes the lost tax significantly harder to identify” with effect from 6 April 2019 - but applying to some extent retrospectively. The new rules will give HMRC a 12 year window in which to assess losses of tax involving such an offshore matter or offshore transfer, even where there is no carelessness on the part of the taxpayer. This amounts to a tripling of the current time limit in some cases.
Broadly speaking, an “offshore matter” covers assets, income or activities situated or arising outside the UK whilst an “offshore transfer” catches the transfer of UK situated assets or UK income outside the UK. For an offshore transfer to be caught by the new time limits, it must have made the lost tax significantly harder to identify, which includes cases where the transfer resulted in HMRC being significantly less likely to become aware of the lost tax or where HMRC was likely to become aware of the lost tax at a significantly later time.
Under existing rules, HMRC have four years to assess a loss of income tax, capital gains tax or inheritance tax in ordinary cases, six years in cases of carelessness and 20 years in cases of deliberate non-compliance. The 20 year time limit will remain unchanged for cases involving deliberate non-compliance.
The new time limits will apply for income and capital gains tax losses that are still assessable as at 6 April 2019, so will apply as far back as the 2013/14 tax year in cases of carelessness and the 2015/16 tax year in other cases. For inheritance tax, the new time limits will cover chargeable transfers made on or after 1 April 2013 in cases of carelessness and after 1 April 2015 in other cases.
A key proviso in the new rules is that the new time limits will not apply in cases where: (i) HMRC has received information under automatic exchange of information agreements from another tax authority in advance of the normal time limits and on the basis of which HMRC could reasonably have been expected to become aware of the lost tax; and (ii) it was reasonable to expect the assessment to be made before that time limit.
On the face of it, the effect of this change is that HMRC will have much longer to assess tax in relation to offshore matters and so taxpayers will have a correspondingly longer time to wait before they will have certainty in relation to their offshore tax affairs. In some circumstances, it may be sensible for taxpayers to consider making voluntary disclosures on their tax returns so that it is more difficult for HMRC to raise assessments at a later stage.
The taxation of trusts: new consultation
As announced at Budget 2017, HMRC has this week issued a consultation on making the taxation of trusts “simpler, fairer and more transparent”. The scope of the consultation is wide ranging, as the Government wishes to:
- address any remaining opportunities to use trusts, in particular non-resident trusts, for tax avoidance or evasion;
- ensure that their approach to trust taxation does not result in unfair outcomes or other unintended consequences; and
- facilitate the straightforward usage of trusts where they are the appropriate legal mechanism.
There is a focus on offshore trusts as the Government is concerned that it is hard for them to establish whether the anti-avoidance legislation is being complied with. Consequently, they are particularly seeking information on why a UK resident and / or domiciled person might use a non-resident trust, and on the current uses of non-resident trusts for avoidance and evasion.
The consultation is intended to gather information rather than putting forward specific proposals, although what they describe as “targeted reforms” will follow in due course, to be introduced following consultation.
Whilst there will no doubt be areas in which HMRC will want to tighten up anti-avoidance rules, one possible result of the consultation is that the Government could put in place a regime which does not provide opportunities for avoidance but which, at the same time, does not deter UK taxpayers from establishing UK domestic trusts during their lifetime (as is currently the case).
Entrepreneurs' relief has also come into the Government's sights in the Budget. This is a relief from capital gains tax which applies to the first £10m of gain realised by an individual who works in a business, or in some cases their trustees, on the sale of certain shares, interests in a business, or assets used in a business. In order to qualify, the company must be a trading company, or the holding company of a trading group (or in the case of a business, it must be a going concern).
Currently shares / securities must be held for at least 12 months to qualify for relief and that has been extended to 24 months with effect from 6 April 2019. Any short term investors may want to consider bringing a disposal forward to bank relief on the gain to date, if they would otherwise fail to meet the 24 month holding requirement from 6 April 2019.
Another condition for relief is broadly that a taxpayer must currently hold at least 5 per cent of the issued share capital of the company and 5 per cent of the voting rights. This has been tightened with effect from Budget day. Shares must now also entitle the taxpayer to 5 per cent of the profits available for distribution to "equity holders" and 5 per cent of assets available to "equity holders" on a winding up. While HMRC claims that the measures are targeted at those who hold shares which have voting rights that are disproportionate to their entitlement to economic benefits from the company, the use of the term "equity holder" may have the effect of diluting shareholders' interests for entrepreneurs' relief purposes. Equally any more complex rights attaching to shares, such as growth, hurdle or ratchet shares, will need to be reviewed.
The Finance Bill also includes provisions allowing individuals whose shareholding is “diluted” below 5 per cent as a result of a new share issue to elect to obtain relief for gains made up to the time of dilution. This will have effect for dilutions which occur on or after 6 April 2019.
Diverting profits to non-UK entities
The Finance Bill sets out the new profit fragmentation rules, on which the Government consulted earlier this year. These target individuals, partners and companies carrying on a trade or profession where profits are diverted to a non-UK entity, resulting in a significantly lower tax rate being applied. The diversion must be disproportionate to the work actually undertaken by that entity, and the taxpayer must be able to enjoy the profits arising to the non-UK entity, and have arranged for the profits to be diverted.
Businesses with a non-UK presence, and UK resident individuals providing services through non-UK entities, may need to review their structuring in light of these rules.
Changes to principal private residence relief
Principal private residence relief (PPR) protects an individual selling their home from capital gains tax on any gain. The relief is given automatically assuming the property has at some point been the owner's only or main home. The last 18 months of ownership is also automatically exempt, whether or not the owner remains living in the property to allow for practicalities of selling and moving. In the Budget last month, the Chancellor announced that the 18 month exemption was being reduced to nine months.
A relief known as Lettings Relief is available where a taxpayer's property is let, as long as at some point during the ownership the property qualified for PPR. The portion of the ownership during which it was the owner's main residence will attract PPR (plus 18 months, or from April 2020 nine months), and the remaining period can benefit from Lettings Relief (which is capped at £40,000). Lettings Relief will be reformed so that it only applies where the owner is in shared occupation with the tenant.
The Government will consult on both of these changes, which are due to come in to effect from April 2020.
More taxpayers are likely to be affected by the change to PPR, but it is worth bearing in mind that the change only subjects an additional nine months of gain to capital gains tax (the gain will be pro-rated for the entire period the property is owned, and the annual exempt amount may be available to set against any gain). The change to Lettings Relief means that, where the owner is not living in the property, no relief will be available beyond the period for which the property qualifies for PPR. If you are thinking of selling a property which currently qualifies for Lettings Relief but you no longer live there, it would be worth considering a sale before April 2020 to take advantage of a relief currently worth up to £40,000.
Annual tax on Enveloped Dwellings (ATED)
ATED is an annual tax payable by “non-natural” persons (e.g. companies) that own UK residential property valued at more than £500,000.
The Government has announced that ATED is to rise in line with the September 2018 Consumer Prices Index. This means that the annual chargeable amounts will increase from 1 April 2019 by 2.4 per cent. By way of an example, from 1 April 2019, the annual charge for a property within the ATED regime which is valued at more than £20m will be £232,350 (up from £226,950 in the current year).
The continued imposition of ever-increasing ATED charges, coupled with the fact that, from April 2017, all UK residential property held by non-UK domiciled individuals or their trusts directly or indirectly through non-UK companies, partnerships or other opaque vehicles is subject to UK inheritance tax, is likely to deter many individuals from acquiring UK residential property through non-UK structures. For those individuals with such structures already in place, it may be worth considering whether it is appropriate to unwind the structures.
Capital gains tax payment window for residential property disposals
Draft legislation was included in the Finance Bill providing for:
- an extension of existing requirements regarding capital gains tax reporting and payments on account for non-UK residents to cover the new interests chargeable to tax on a direct or indirect disposal of UK land (see here), to be effective for disposals on or after 6 April 2019; and
- an introduction of equivalent capital gains tax reporting and payment on account obligations for UK residents (or UK branches / agencies of non-UK resident persons) on a direct disposal of UK land giving rise to a residential property gain, to be effective for disposals on or after 6 April 2020.
“Indirect disposals” for these purposes are disposals of assets (wherever situated) that derive at least 75 per cent of their value from UK land where the person also has a substantial indirect interest in the land.
In short, these rules will require both UK residents and non-UK residents disposing of interests in UK property (including, in the case of non-UK residents, where held indirectly) to submit a return and make a payment on account of the tax due on any gain within 30 days of the disposal. Certain disposals are excluded from the scope of the rules, most significantly where the disposal is by a UK resident and does not result in a gain or a loss accruing.
There are helpful provisions allowing the taxpayer to provide a reasonable estimate of a valuation when calculating any gain (if this information is not available within the 30 day period) and preventing the need for multiple reports to be made on same-day disposals from a multi-tiered structure or if the taxpayer has / should have already reported the disposal on a self-assessment tax return.
Having said this, these new provisions will be very onerous and will involve taxpayers' additional time and expense in dealing with their tax compliance. Not only will calculations have to be made on the basis of assumptions and estimates (given the need to submit a return midway through a tax year) and then potentially to have to correct the calculations following the end of the tax year.
The experience of a similar regime for the existing non-resident capital gains tax has been that many taxpayers have been unaware of their obligations. HMRC have charged significant penalties for failure to file the relevant tax returns on time. Taxpayers and their advisers (including the professionals who are dealing with the sale) are going to need to be on the ball to ensure that the relevant returns are submitted on time and that any tax due is paid.
Second homes lettings tax relief
The Ministry of Housing, Communities and Local Government yesterday issued a consultation on the tax treatment of second homes. Under the current rules, anybody owning a second home is subject to council tax, unless that property is available for letting commercially for more than 140 days a year. In that case it is treated as a business, and so is subject to non-domestic business rates. The overwhelming majority of holiday lets qualify for Small Business Rates Relief (SBRR) at 100 per cent, meaning that no tax is payable.
The aim is to bring those properties where no real effort is made to let out the property within the council tax net by tightening the rules. The proposal is that, in order to qualify for SBRR, the property would need to have been available to let for at least 140 days in the previous and current years, and to actually have been let for at least 70 days in the preceding year. There will be a year after the legislation is amended to allow property owners to make any adjustments to their arrangements that would allow them to qualify.
Owners of second homes that currently qualify for SBRR but do not achieve lettings of more than 70 days a year will need to consider whether they want to take any steps to ensure that their property continues to benefit from the relief.
Significant changes are being made to the tax liabilities of non-UK residents who hold UK real estate. In some cases, this will mean additional tax liabilities. For others, it may only be a change to the way in which income and / or gains from UK real estate are assessed.
Many non-residents will need to review the structures through which they hold or, in the future, acquire UK real estate in the light of these changes.
Taxation of capital gains from UK real estate
Historically the UK has not taxed gains realised by non-UK residents from UK real estate investments.
This started to change in 2013 when gains from higher value UK residential property owned by non-UK companies were brought into charge. In 2015, all gains from UK residential property (whatever its value) became taxable for most non-residents.
The big change from 6 April 2019 is that non-residents will in future have to pay tax on gains not only from UK residential property but from any other UK real estate as well.
In addition, non-residents will have to pay tax on gains derived from the disposal of an interest in a “property rich” vehicle. Broadly speaking, this means entities which derive more than 75 per cent of their value from UK real estate.
A non-resident will however normally only be taxable on the disposal of an interest in a property rich entity if that person (together with any connected persons) holds at least 25 per cent of the relevant entity.
There are complicated rules which look through multiple layers of ownership in order to determine the extent to which the interest in the entity which is being disposed of derives its value from UK real estate.
As far as non-residential property is concerned, it is only any increase in value after 5 April 2019 which will be taxable. It may make sense to obtain a valuation of any relevant property or of any interest in a property rich entity in order to support any future calculation of taxable gains on a subsequent disposal.
Where the non-resident’s original cost is higher than the value of the property which they own in April 2019, it will be possible to make an election to use the original cost as the starting point for any future calculation of gains. It may therefore be worth doing a comparison between historic costs and current values given that historic information may be more difficult to obtain as time goes by.
The position for residential property is more complicated given that most non-residents already pay capital gains tax on residential property.
The good news however is that, for disposals after 5 April 2019, the original capital gains tax regime introduced in 2013 for higher value residential properties (ATED related capital gains tax) will be abolished. The effect of this is that non-residents will only have to pay tax on any increase in value since 6 April 2015 or, if the non-resident was not already within the scope of tax on gains from residential property (for example, because the owner was a widely held company), only on gains since 6 April 2019.
As with other forms of real estate, owners of residential property will be able to elect to use the actual acquisition cost rather than the value at the relevant rebasing date in order to calculate their gains.
There are special rules which will apply to collective investment vehicles which invest in UK real estate. These exemptions are broadly intended to ensure that there is only one layer of tax and that investors who would otherwise be exempt (such as pension funds) do not suffer as a result of investing in UK real estate through a collective investment vehicle rather than investing directly. One corollary of this is that investors in a collective investment vehicle which is “property rich” are taxable in the UK on any profits irrespective of the size of their holding in the fund (i.e. they do not have to hold a 25 per cent stake in order to be taxable).
There are anti-avoidance provisions which prevent non-residents from using double tax treaties to avoid UK tax on profits from UK real estate.
Non-resident companies to be liable to corporation tax rather than income tax / capital gains tax on profits relating to UK real estate
Non-UK resident companies currently pay income tax on income from UK real estate and capital gains tax on gains realised on a disposal of UK real estate.
From 6 April 2019, gains will be subject to corporation tax rather than capital gains tax. The main purpose of this is to ensure that the restrictions on the use of losses which apply to UK companies will also apply to non-UK companies as far as real estate is concerned.
The good news is that this will reduce the rate of tax payable by non-UK companies on real estate gains from 20 per cent to 19 per cent (and due to reduce to 17 per cent in 2020).
The bad news is that companies which own UK residential real estate and which may therefore have worked out how the existing non-resident capital gains tax regime works will now have to take advice on and get used to the UK corporation tax regime.
As far as income from UK real estate is concerned, non-UK companies have, until now, paid income tax on their profits. Again, this is being changed so that non-resident companies will pay corporation tax on such profits but, in the case of property income (as opposed to gains), the change will only be made from 6 April 2020.
There will therefore be one year where companies are subject to corporation tax if they realise any capital gains on a disposal of UK real estate but will be subject to income tax on any income from UK real estate.
There are however transitional rules which ensure that any income tax losses can be set against future corporation tax profits in relation to the relevant property business.
The main reason for the change from income tax to corporation tax is to ensure that non-resident companies are subject to the same restrictions on the deduction of interest as for UK companies and also (as mentioned above) the same restrictions on the use of losses.
These restrictions will however only affect larger companies as there are thresholds below which interest and losses remain fully deductible.
Disclosable arrangements (mandatory disclosure requirement)
The Finance Bill gives HM Treasury the power to make regulations which transpose two international disclosure regimes into domestic law – an OECD proposal developed specifically in relation to arrangements which circumvent the Common Reporting Standard (CRS) and a wider EU initiative that requires the disclosure of cross-border tax planning arrangements that exhibit certain "aggressive" "hallmarks" (including the avoidance of CRS reporting).
The EU regime is compulsory for Member States and it is unlikely that this will be affected by Brexit. The OECD proposal on the other hand is voluntary and the Government has not yet confirmed whether it will in fact use its powers to introduce both regimes.
Both regimes require intermediaries (including fiduciaries, advisers and service providers and, in some cases, taxpayers) to report information about arrangements caught by the regimes to their national tax authority for onward exchange with the jurisdiction in which the taxpayer benefitting from the arrangement is resident.
The Government has not yet published the regulations and will consult on the detail “in 2019”. However, it is clear that the rules will be retrospective in effect and will at a minimum apply to arrangements put in place since 25 June 2018. Clients should discuss with their advisers how this may impact their structures.
There are a number of small but nevertheless positive developments for charities and donors designed to reduce the administrative burden on the sector.
Gift Aid Small Donations Scheme (GASDS): increase in donation limit
GASDS allows charities to claim Gift Aid on small cash donations (and those made by contactless payment) without requiring donors to give their details or make a Gift Aid declaration. It is, for example, useful for charities making bucket collections or for collections made during religious services. A donation of £1 that is eligible for GASDS will be worth £1.25 to a charity. The maximum amount a person can currently donate to a charity by cash or contactless payment under the scheme is £20 but, with effect from 6 April 2019 (parliamentary time permitting) this amount will increase to £30.
Small Scale Trading Exemption (SSTE): limits increase
Charities do not pay tax on profits made through trading activities that are part of their charitable purpose (for example, on the sale of tickets by a charitable theatre company or on fees for education charged by a charitable school). Other trading activities are usually taxable but the SSTE permits limited levels of non-charitable trading (for example, the sale of Christmas cards to raise funds) without the profits from these activities being taxed.
The current limits are:
|Annual charity income||Maximum non-primary purpose trading|
|£20,000 to £200,0000||
25 per cent of the charity's total annual turnover
The new limits will be:
|Annual charity income||Maximum non-primary purpose trading|
|£32,000 to £320,0000||25 per cent of income|
Where non-charitable trading activities exceed the permitted limits, a charity will set up a trading subsidiary to carry them out. This is tax efficient but requires a certain amount of administrative time and attention that must be paid to governance issues. The new limits should allow more charities to undertake non-charitable trading activities before a trading subsidiary is needed.
Retail Gift Aid: reducing the frequency of letters to donors
Under the Retail Gift Aid scheme, charities (or their trading subsidiaries) sell goods donated by individuals in their shops. Once the goods are sold, the donor is then able to donate the sale proceeds under Gift Aid. The Retail Gift Aid scheme currently requires charity shops to issue letters to donors annually. From April 2019, providing a donor’s total donations in a tax year are less than £20, charity shops will be able to choose to send letters to donors every three years.
Exemption for expenses of unpaid office holders
Expenses incurred by unpaid office holders (including charity trustees) as part of their voluntary duties are treated as exempt from income tax and national insurance contributions as a result of a long standing extra-statutory concession. This will be put on a more formal footing through legislation set out in next year’s Finance Bill, providing certainty to organisations which use this relief.