London is seen by many as one of the leading cities in the world and many wealthy non-UK residents have bought residential property in London, or maybe somewhere else in the UK. Property prices in the south east of England, and especially London, can make owning a residential property a lucrative exercise.
Buyers purchase London property for three main reasons: as a buy-to-let investment; to accommodate family members such as students or returning expats, or as a London base for work or holidays. It has been suggested that more than 70% are for investments to rent.
Recent figures also show that a third of new homes in the prime central London boroughs of Westminster, Kensington and Chelsea and the City were also sold abroad.
As the owners may not be resident in the UK they may not appreciate the impact of UK inheritance tax that could be payable. Individuals who own UK property will be liable to UK inheritance tax even if they are non-UK resident and non-UK domiciled.
Inheritance tax in the UK is mainly linked to domicile and a non-UK domicile will pay UK inheritance tax on any immoveable assets based in the UK. This, by definition, will include any UK property. If these individuals become UK resident then once resident in the UK for 15 out of the previous 20 tax years they will be deemed UK domiciled and be taxed in the same way a UK-domicile – they will pay UK inheritance tax on their worldwide assets.
As you can see from this, wealthy individuals who own a property in the UK, even if they do not become ‘deemed UK domiciled’, could leave a significant tax liability to their family should they die whilst owning a UK property.
In the UK everyone is entitled to a nil rate band of £325,000 and a residence nil rate band of (currently) £125,000. After this everything is taxed at 40%, unless they give away at least 10% of their net estate to charity, in which case they would benefit from a reduced rate of 36%.
Using the 40% rate, consider an individual who owns a property in London that is valued at £5m. On their death they would potentially leave an inheritance tax liability of over £1.8m and this would need to be paid before the assets can be passed on to the heirs.
In the past, in an attempt to avoid the potential for inheritance tax, many non-UK domiciles created an overseas company to buy the property as IHT was not charged on assets held in overseas corporate structures. As well as the fees for putting such a structure together, over recent years the UK government has made ownership of property in this way much more onerous and expensive, so much so that the use of overseas companies may not be the best way forward.
The measures taken by the UK government means that company-owned properties can suffer higher rates of Stamp Duty than personal ownership, the Annual Tax on Enveloped Dwellings (ATED) may be payable and ATED-related Capital Gains Tax (AR CGT) could apply.
In addition to these taxes, the UK government now charges IHT on the death of an individual who holds shares in a company that owns a UK residential property. The value used for IHT is the value of the shares that represent the underlying property.
Some people even take corporate ownership a stage further – they use trusts to hold the shares in the overseas company which own the UK property. Where such as structure exists the shares that represent the value of the UK property will not be excluded property and potentially subject to UK tax.
These taxes and the costs associated with holding a property in a trust and corporate structure can now be unattractive and many now consider owning the property personally. This means that they need to find alternative ways of meeting the inheritance tax liability.
The easiest and most straightforward method is to insure the potential inheritance tax liability.
Take our example above: a property worth £5m owned by the non-resident, non-UK domiciled individual. They could insure their life for £1.8m with a policy designed to pay out to their family when they die. An insurance company would then provide a lump sum on death to cover the potential IHT liability. The cost of cover could vary depending on state of health, lifestyle, country of residence and so on, but could be significantly cheaper than the various taxes and fees associated with more complex and convoluted ways of owning a property. It would also be much easier to explain to the family members.
The use of a suitable trust could make sure that the sum assured is paid out quickly and without any unnecessary taxes, but this would depend on the policyholder’s country of residence.
For those people not resident in the UK, or those who opt to use the remittance basis, the use of a non-UK insurer may be attractive. If the individual has sufficient foreign assets to justify the remittance basis charge, then they can fund any policy using unremitted funds. If the sum assured became payable and was brought to the UK there could appear to be a remittance, in which case the derived remittance would equal the premiums paid to the extent they had been paid from foreign income and gains.
As the remittance basis user would have died prior to the remittance being made, there is a question as to who would have to pay any tax, especially if the sum assured was remitted in the tax year following the death. Looking at HMRC’s Residence, Domicile and Remittance Basis Manual, section RDRM33600 states that, ‘Foreign Income and Foreign Chargeable Gains of a remittance basis user that arose or accrued before his or her death but which are brought to the UK after the date of his or her death will generally not be regarded as a taxable remittance.’ On this basis, the lump sum may not be taxed when being remitted anyway; it is important to clarify the tax position when considering any remittance to the UK.
The use of a life assurance solution also provides simplicity if the property is disposed of during the individual’s lifetime. If the property is sold and the proceeds moved away from the UK, the IHT liability would fall away. Any life assurance would therefore be surplus to requirements and the individual can then cease the premiums and the life policy can lapse.
Sometimes simplicity can provide the most suitable solution – life assurance is certainly more straightforward than some complex financial arrangements.
Neil Jones, Market Development Manager, Canada Life
Neil Jones, Market Development Manager. Neil is an investment specialist with over 20 years’ financial services experience with life and pensions providers, an investment company and as a professional adviser specialising in pensions, investments and estate planning. Neil has been involved in product development, investment research and training.