Frequently Asked Questions
I own UK residential property through an offshore company. What are the changes that I need to be aware of?
It is likely that individuals owning property in an offshore company are not domiciled in the UK (and possibly not resident in the UK). If this is the case, you would not pay UK inheritance tax if you were to die, or if you settled the company shares into trust.
There is a change from 6 April 2017 which means UK residential property will be charged to UK inheritance tax (IHT) even if the property is owned through a company or other vehicle. The IHT is actually charged on the shares in the company rather than on the property. We illustrate the situation with two scenarios below:
Scenario 1:
Offshore company owns two properties – £10m house in the UK (with a £6m mortgage against the property) and a £10m house in NY.
If the UK house were owned directly, UK IHT would be charged on £4m (£10m less £6m mortgage) – assuming that the debt is deductible (there are situations where the debt is not deductible but individuals should seek advice on this area). However, the debt is apportioned across all the properties in the company, even if it is secured against a particular property. So the UK IHT would be on £7m (being £10m less 50% of the £6m debt)
Scenario 2:
If we take the same scenario as above, but assume that the debt was secured against the NY property rather than the UK property.
If the property was owned directly, UK IHT would be due on £10m as the property is not subject to debt. However, owning the property in a company, the UK IHT would be charged on £7m (being £10m less 50% of the £6m debt)
When will collateral and debt within a company be charged to UK IHT?
The rule to take effect from 6 April 2017 will still allow loans to be deductible in calculating the chargeable value for IHT purposes, subject to the current rules. However, some loans will, from 6 April 2017, become chargeable assets for UK inheritance tax purposes, and will be charged to UK IHT. A genuine commercial bank loan will not be charged to IHT since it is beneficially owned by a company that is very widely held. However, care should be taken in a number of situations – we outline one situation that could be relevant to clients below.
Situation:
An individual who is not UK resident or domiciled buys property in the UK for £4m. He borrows £3m to fund the purchase, and secures the loan against his portfolio of £6m which he holds with the same bank.
On his death, the loan is not deductible against the property (since it is not secured against the property) so the full £4m value of the property is charged to UK IHT. In addition, the collateral (less the loan against it) is also charged to IHT (£6m portfolio less £3m debt).
In this situation we have UK IHT charged on £7m when the property is only worth £4m.
What if the company is owned by an offshore trust?
Where a trust owns a company that in turn has an interest in UK residential property, the value of the shares in the company attributable to UK residential property will be subject to UK IHT (see the above two questions for more detail). This means that the Trustees will be subject to ten yearly and exit charges (see below) on this property in the trust. The relevant date for calculating the ten yearly charges is the original settlement date of the trust rather than the date the new rules come in. The charge is apportioned if part of the ten years falls before 6 April 2017 when the rules did not apply.
Where the Trustees of an offshore trust hold property that falls within the scope of UK IHT, there is a charge to the trustees every ten years from the date that the trust is established on (broadly speaking) the value of UK property in the trust. The charge is up to 6% (depending on the calculation which can be quite involved). When property subject to UK IHT is distributed to a beneficiary there is an exit charge, which is the ten yearly charge apportioned for the time since the last ten year charge (so for example if a distribution was made after 5 years, the exit charge would be half of the ten year charge).
What is the situation if the company sells the UK residential property?
There is likely to be a UK charge to capital gains tax if the company either sells or distributes the property. The gain could be calculated by reference to the value of the property at April 2015, or earlier if the property falls within ATED. The rules to apply in this area are both complex and highly fact specific, so we would recommend seeking advice before the company disposes of the property.
If there is no longer an Inheritance Tax benefit to owning the property in this way, are there any reliefs for getting the property out of the company?
There are currently no proposed reliefs for ‘de-enveloping’ property, despite many representations to the government that this would be beneficial. There are generally two options available to persons looking to extract a property from a company:
Option 1:
The company sells the property then distributes the proceeds to the shareholder on winding up the company.
This is clearly only an option if the shareholder no longer wants to own the property in question. The company may incur UK capital gains tax on selling the property, since UK capital gains tax has been chargeable on non-resident individuals from April 2015 (or earlier if the property falls within ATED and does not qualify for one of the exclusions). Any increase in value from the relevant date will be chargeable to UK capital gains tax at 28% for ATED property and 20% for non-ATED property.
Assuming that the shareholder is not UK resident, there would be no further charge on winding up the company and distributing the proceeds to the shareholder.
Option 2:
The company distributes the property out to the shareholder as a dividend in specie.
This option is reliant on there being sufficient ‘distributable reserves’ within the company to make such a dividend possible.
If the property is subject to debt, the value of the mortgage would be charged to stamp duty land tax in the UK, as a transfer of debt is deemed to be ‘consideration’ paid for stamp duty land tax purposes.
In addition, the property is deemed to be transferred at its current market value, so there may also be a UK capital gains tax liability on the company distributing the asset.
Some individuals may choose to do nothing when the new rules come into place. Whichever option is best, it may be worth considering taking out insurance to cover the potential cost of UK IHT
Another option is having more shareholders of the company such that the value of the UK residential property is spread, and since each individual has their own £325k nil rate band for IHT purposes, the overall UK IHT liability would be minimised.
What further steps can I take?
Individuals and Trustees owning UK residential property through a corporate entity should seek advice as soon as possible to understand the UK tax implications of the proposed rules.
Charter Tax can provide advice on the tax impact of the proposed rules to your situation, and any planning you can undertake before the new rules take effect. If you would like further information or advice, please contact us using the details below:
Janet Paterson: janet.paterson@charter-tax.com
Jane Hodge: jane.hodge@charter-tax.com
Tom Barker: thomas.barker@charter-tax.com
Disclaimer
The information provided by Charter Tax Consulting Limited is general in nature and does not constitute specific tax advice. Professional advice should be sought before deciding on a course of action, or refraining from a certain action, arising from the above information. Tax legislation changes regularly and information contained herein is provided based on legislation as at 16 March 2017.
Taxation planning concerns the application of complex statute and case law to future events. Accordingly, however expert the opinion given, it is always possible that the Courts will take a different view of the application of the law. We undertake to apply reasonable care and skill in the provision of advice. We do not guarantee that tax planning steps will in all circumstances achieve a certain legal effect.