The UK tax regime for UK residential property held in any sort of offshore vehicle changed with effect from 6 April 2017.
Prior to that date, a non-domiciled individual was not liable to inheritance tax (“IHT”) on the value of UK residential property if the property was owned by an offshore company or other opaque structure (such as an offshore partnership). It was therefore standard tax planning for a non-domiciled person to own UK residential property via an offshore company. The changes related to UK residential property held indirectly by offshore trusts also, whether the Settlor was UK domiciled or not.
- Offshore Trust Structure holding UK Residential Property
From 6 April 2017, the value of shares held in an offshore trust structure owning UK residential property is no longer excluded property for IHT purposes and are now subject to the relevant property regime. IHT will be chargeable on each ten year anniversary (TYA) of the establishment of the Trust, and if the residential property (or the shares in the vehicle which holds it) leaves the Trust at a maximum rate of 6% in all instances. If the Settlor, or his spouse or civil partner, is a beneficiary of the structure or is capable of benefitting there will also be a charge to IHT on the death of the Settlor.
Trustees, especially those who have taken over an existing investment ownership structure, need to check when the Trust was first established to determine when the TYA will fall and if any IHT charges arise on the distribution of assets from the Trust.
The Trustees can also be exposed to IHT where the trust holds shares in a company and makes loans to the company, or an underlying entity, for the purpose of acquiring or maintaining UK residential property. The receivables in respect of the loans are treated as UK situated assets of the Trustees for IHT purposes, both for the period in which the loan is outstanding and for two years afterwards. In addition, any assets given as security, such as collateral or as a guarantee, for such a loan are within the scope of IHT in the estate of the provider of that security up to a maximum of the value of that debt. Care is required, even after the disposal of UK residential property. For example, where a company owning such property is sold, the sale consideration continues to be treated as relevant property for the next two years where the proceeds are held offshore and would otherwise be treated as excluded property. The additional two year period does not apply, however, if the property itself is sold. These rules do not apply to commercial property.
A Trust’s first TYA after the 6 April 2017 will bring it within the scope of IHT but the charge will be reduced proportionately to take account of the part of the ten year period that fell before this date and was still excluded property. So, for example, a ten year charge arising on 6 April 2023 (six years after the change) would be reduced to 6/10 of the full amount.
If the terms of the Trust are such that the Settlor (or his spouse or civil partner) may benefit from it, the changes will mean that an IHT charge can arise on the property on the death of the Settlor. In most cases it should be possible to exclude the Settlor in order to prevent any double charge to IHT.
- Is IHT in issue for a Trust?
The charge to IHT on relevant property arises on two occasions:
- The TYA of the Trust’s establishment (the principal charge); and
- When property (or value) ceases to be relevant property other than on excepted occasions (the exit charge).
Where an account needs to be filed, it should be filed on form IHT100, together with any relevant supplemental pages. In the event of a TYA charge this will include the IHT100d Form and a D31 Form (if the Settlor is claiming a non-UK domicile at the time of the establishment of the Trust). The IHT100c Form will be relevant for an exit charge. An IHT122 Form will also need to be completed in order to apply for a reference number for the Trust with HMRC (at least 3 weeks before making an IHT payment). Filing is always required in instances where the Settlor is non-UK domiciled and the Trustees are non-UK resident.
- Responsibility to file the account and/or pay the IHT
The primary responsibility to account rests with the trustees but, if the trustees are not UK resident then the Settlor is also liable during their lifetime and one would, in practice, expect HMRC to pursue the Settlor in the first instance if UK resident (although the primary liability of the overseas trustees is not removed).
- When is the TYA of the Trust?
In most cases this will simply be measured as the TYA date from the date of the establishment of the Trust. There are exceptions such as instances where relevant property has been transferred from one trust to another. In this case the principal charge in relation to the transferred property remains the TYA of the Transferor Trust, notwithstanding the property has ceased to be held by that settlement and instead forms part of the trust fund of the Transferee Trust.
- When are the IHT account and payment due?
From 6 April 2014, the IHT account and tax payment are both due six months from the end of the month in which the chargeable event occurs. For example, in the event of a TYA charge, if the Trust’s TYA occurred on 2 March 2023, the Trustees would be required to file the IHT100 (and supporting forms) by 30 September 2023.
- On which amount is the IHT levied?
The IHT charge is levied on the value of the relevant property held in the Trust on the day before the TYA. In instances where the Trust holds residential property an up to date market valuation of the property will therefore be required.
It is also worth noting that in instances where the UK residential property is held by an underlying company, it will be the value of the shares of that company (not the underlying residential property) which will be within the charge to IHT. If the company owns any asset which are not chargeable to IHT, the value attributable to such assets is not subject to IHT in which case a pro-rated apportionment should be made between the chargeable and non-chargeable interests to calculate the proportion of the share value which is subject to IHT.
- Loans and Deductibility
Loans can generally be deducted for IHT purposes but where an underlying company holds UK residential property, any loan used to acquire the property will not be deducted solely against it (even if the debt is secured against the UK residential property). Rather the loan will be deductible against all of the company’s assets in proportion to their value at the date of the TYA.
- Recommendations for Trustees
Trustees should review any historic UK residential property structures to determine the IHT position and take any action to file the appropriate IHT Forms and pay any tax due.
Relevant considerations might include the following:
- Are there any loans outstanding to any underlying company of the Trust or any other related structure. What is the purpose of the loan? It is not unusual for Trustees to make loans to Beneficiaries rather than distributions, with a view to mitigating the Beneficiaries’ Income Tax and CGT exposure so it may be difficult over time to identify whether a loan was partly or wholly used to maintain or enhance UK residential property. Records could be checked and possibly any notes in the accounts (if prepared) or Trustee Minutes. Alternatively, it may be necessary to talk to the Beneficiary involved.
- Take care in determining the relevant TYA date. In instances where there has been a transfer of relevant property from one Trust to another, the TYA will relate back to the establishment of the Transferor Trust.
- Could agricultural property relief (APR) and/or business property relief (BPR) be relevant to the residential property in question which could exempt or at least mitigate the IHT exposure?
- Establish any liability in good time and file the relevant forms to meet the deadline and make the payment (where necessary). If the Trust has not already obtained an IHT Reference Number with HMRC apply beforehand on Form IHT 122 to enable any payment to be made. Late payments usually carry interest and penalties.
- In addition, from 6 April 2017, the relevant property regime will also need to be considered where the Settlor of a Trust was born in the UK with a domicile of origin and is returning to the UK to become resident here, even if that Settlor was UK domiciled at the time the Trust was established and the Trust only holds non-UK situs assets.
The information contained in this Briefing Note is provided for general information purposes only and do not claim to be or constitute legal or other professional advice and shall not be relied on as such.