This briefing has been updated. For the latest version see Capital gains tax for non-residents disposing of UK residential property: Final Rules.
In November 2014, the UK Treasury and Her Majesty's Revenue and Customs (HMRC) jointly published their response to last year's consultation on the introduction of a capital gains tax (CGT) charge on non-residents who dispose of UK residential property. Draft legislation was published on 10 December 2014 and the new charge is to take effect from 6 April 2015.
In this note, we outline the Government's amended proposals for the taxation of gains made by non-residents disposing of UK residential property and consider potential issues and planning considerations arising from the new tax.
We also note a couple of points arising from changes to the Stamp Duty Land Tax (SDLT) rules, and the new Annual Tax on Enveloped Dwellings (ATED) rates, announced by the UK Chancellor in the Autumn Statement on 3 December 2014.
Summary of final CGT proposals
- The new CGT charge on non-residents will focus on "property used or suitable for use as a dwelling" and, unlike the existing ATED-related CGT charge, it will include residential property used for letting purposes.
- There will be exclusions for certain types of property in communal use, e.g. boarding schools, nursing homes and certain types of student accommodation.
- All residential properties within the definition are potentially within scope, regardless of their value. This distinguishes the new charge from the existing ATED-related CGT charge, which limits the charge to properties for which the consideration for disposal exceeds a specified "threshold amount". This is currently £2 million and is due to decrease to £1 million from 6 April 2015 for gains accruing after that date.
- The charge will apply to gains made by individuals, trustees and closely held non-resident companies and funds (to the extent that such gains are not caught by the ATED-related CGT charge). Companies and funds which are not closely-held will not be caught and neither will most institutional investors.
- Principal private residence relief (PPR) will be available in appropriate circumstances. However, there will be a new rule for PPR, applicable both to non-UK residents in relation to residential property in the UK and UK residents in relation to property overseas.
- Broadly, PPR will not be available for a tax year unless either:
- the person making the disposal was tax resident in the country where the property is located for that tax year; or
- the person spent at least 90 days in that property in that tax year - the "90-day rule". (If a person has more than one property in a country in which they are not tax resident, ithe or she may aggregate the number of days spent in any of those properties in the relevant tax year in order to meet the 90-day rule. One of those properties may then be nominated for PPR.)
- Under the new CGT charge, the rates for individuals will be either 18% or 28% according to their status as basic or higher/additional rate taxpayers respectively. The rate for trustees will be 28%.
- The rate for companies within the charge will be 20%, mirroring that for UK resident companies.
- There will be a mechanism for declaring losses and offsetting them against gains from the sale of UK residential property, where appropriate. Limited indexation allowance and "pooling" arrangements will be available to non-resident companies and groups.
- A 'payment on account' regime will be introduced with a deadline of 30 days for reporting the disposal and making payment for persons without an "existing relationship" with HMRC.
- ATED-related CGT will continue to apply, where relevant, and the rate will continue to be 28%. Where both CGT charges potentially apply, ATED-related CGT will take precedence, and any remaining gains will be taxed under the new rules.
- The new rules will not apply to gains relating to periods before 6 April 2015. Taxpayers will have three options, as follows:
- rebase to 6 April 2015 (in which case, any post-6 April 2013 gain may be liable to ATED-related CGT, if relevant for that period);
- time apportionment of the gain unless the property is also subject to ATED-related CGT;
- elect to compute the gain or loss over the entire period of ownership, mirroring the option under ATED-related CGT.
Brief summary of SDLT changes
- The Chancellor announced at the Autumn Statement on 3 December 2014 that SDLT was being reformed for purchases of residential property with effect from 4 December 2014.
- A purchaser who exchanged contracts before midnight on 3 December 2014 could choose whether the new or old SDLT rules and rates should apply.
- Under the new rules, rather than pay tax at a single rate on the entire purchase price, a purchaser pays the rate applicable to the part of the price within the relevant band.
- The rates are, as follows:
- £0 to £125,000 - 0%
- £125,001 to £250,000 - 2%
- £250,001 to £925,000 - 5%
- £925,001 to £1,500,000 - 10%
- £1,500,001 and over - 12%
- For residential property costing over £500,000 acquired for private use through a company or other relevant non-natural person, higher rate SDLT at 15% continues to apply.
Brief summary of changes to ATED rates
The annual tax on enveloped dwellings, or ATED, was introduced in April 2013 as part of a package of measures (also including the ATED-related CGT charge) to tackle perceived tax avoidance through the use of corporate vehicles to hold UK residential property.
In December's Autumn Statement, the Chancellor announced that, from 1 April 2015, the charge on properties worth over £2 million held through such vehicles will be increased by 50% above inflation.
The increases will be, as follows:
- Property valued over £500,000 and up to £1 m: currently £0, will be £3,500 from 1 April 2016 (no change resulting from the Autumn Statement);
- Property valued over £1m and up to £2m: currently £0, will be £7,000 from 1 April 2015 (no change resulting from the Autumn Statement);
- Property valued over £2m and up to £5m: currently £15,400, increasing to £23,350 from 1 April 2015;
- Property valued over £5m and up to £10m: currently £35,900, increasing to £54,450 from 1 April 2015;
- Property valued over £10 million and up to £20m: currently £71,850, increasing to £109,050 from 1 April 2015; and
- Property valued in excess of £20m: currently £143,750, increasing to £218,200 from 1 April 2015.
Clearly, these are significant increases, particularly given that this is an annual, rather than one-off, charge.
Amended CGT proposals in detail
The Government reviewed and took into consideration the responses it received to the consultation. As a result, it has made a number of changes to the original proposals, as follows:
What is in scope of the new charge?
The new CGT charge on non-residents will be focussed on "property used or suitable for use as a dwelling", i.e. a place that currently is, or has the potential to be, used as a residence. This will include property in the process of being constructed or adapted for such use, in line with the definition in the SDLT, ATED and ATED-related CGT regimes. Disposals of building land will be outside the scope of the charge, until a residential building is under construction.
A disposal of rights to acquire a UK residential property "off plan" before construction will be treated as if it was a disposal of an interest in a completed property.
Residential property used for letting purposes will be included in the charge, as would be the case for UK residents. In this way it will differ from the ATED-related CGT charge which (among others) provides a relief for property let to third parties on a commercial basis.
There will be exclusions for residential property with a communal use, such as boarding schools, nursing homes, etc. The original proposals have been amended so that purpose built residential accommodation for students (including halls of residence, purpose built flats etc) with at least 15 bedrooms will be excluded from the new CGT charge on non-residents provided it is occupied by students on more than half the days in the tax year. However, smaller establishments, such as family homes converted or otherwise let out to students will be within the scope of the new charge.
The original proposal that disposals of multiple dwellings in a single transaction will not be excluded from the new CGT charge on non-residents appears to remain. This contrasts with SDLT where such transactions involving six or more dwellings are treated as a non-residential transaction and charged to SDLT at 4%.
Who is in scope of the new charge?
- Individuals - non-resident individuals who own and dispose of UK residential property directly will be liable to the new CGT charge.
- Partnerships - although partnerships are to remain tax transparent, the new CGT charge will apply to disposals of UK residential property made by non-resident partners within the new CGT regime to the extent that gains are attributable to them, as is currently the case for UK resident partners.
- Trustees - it is proposed that non-resident trustees should be subject to CGT on any gains on disposals of UK residential property. It is proposed that the new CGT charge will take precedence over existing CGT anti-avoidance provisions that seek to attribute trust gains to settlors and/or beneficiaries of non-resident trusts.
- Shareholders/unitholders - as originally proposed in the consultation, non-resident investors will not be taxed on disposals of shares in a company or units in a collective investment scheme (CIS) or fund.
- Funds - a "widely-marketed fund condition", broadly replicating the existing test in the respective regimes for UK Authorised Investment Funds and Offshore Funds, is being introduced to ensure that where funds satisfy the modified condition, they will not be within the scope of the new CGT charge on non-residents. Anti-avoidance provisions will prevent a tax charge being avoided by artificial arrangements to enable a fund to meet the condition or by artificial inclusion of a fund in the arrangements for property ownership and disposal.
- Pension funds - will be excluded from the scope of the new CGT regime.
- Foreign REITs - foreign real estate investment trusts (REITs) will not be taxable under the new CGT regime where they are equivalent to UK REITs.
- UK REITs - non-residents investing in UK residential property through UK REITs will also not be affected by the new CGT regime.
- Non-resident companies - it is proposed to extend CGT to gains on UK residential property sold by closely held non-resident companies.
"Closely held company" test
Following up on an announcement made after the consultation closed, the Government's response indicates that it proposes to introduce a "closely held company" test to limit the scope of the extension to non-resident companies that are the private investment vehicles of individuals, families or small groups of individuals or families.
This is intended to deter individuals who would otherwise be within the scope of the new rules from transferring their interest in UK residential property to a non-resident company to escape the CGT charge.
At the same time, it should ensure that the extension of CGT will not apply to disposals of UK property made by widely held or listed companies.
A "closely-held company" is defined in the draft legislation as one which is under the control of 5 or fewer participators, or that five or fewer participators together hold or, in appropriate circumstances, are entitled to acquire, rights to the greater part of the company's assets on a winding up. Companies will not be regarded as closely-held if it would only be possible to regard them as such by including as a participator a company which is itself a diversely-held company or qualifying institutional investor (such as a widely-marketed unit trust or open-ended investment company), or a loan creditor of the company which is itself a diversely-held company or qualifying institutional investor.
For protected cell companies, the test is applied to each cell or division of the company, rather than just at the level of the company.
Anti-avoidance provisions are also included to prevent arrangements which manipulate the control of a company at the time of a relevant disposal.
Despite many responses to the consultation suggesting that ATED-related CGT would effectively be redundant once the new CGT charge on non- residents is introduced and should be scrapped in favour of the new charge, the UK Government considers that the two charges target different issues and proposes to retain the ATED-related CGT charge. It will continue to apply at 28% rather than 20%, the rate applicable to companies under the new CGT charge.
The Government proposes that, to the extent a gain is ATED-related, ATED-related CGT will apply and any remaining part of the gain post-6 April 2015 will be subject to the new CGT charge on non-residents.
Interaction with anti-avoidance provisions
Like the ATED-related CGT charge, the new CGT charge will take precedence over existing anti-avoidance provisions that attribute gains to UK resident members of non-resident companies.
Principal Private Residence Relief
PPR (principal private residence relief) is currently available where a property is an individual's main residence (this includes trust beneficiaries in appropriate circumstances).
The Government was concerned that, under the existing terms of the relief, non-residents could make an election for their UK property to be their main residence for the purposes of PPR, and thereby avoid a CGT charge.
Neither of the two options proposed in the consultation to deal with this was popular with respondents and, accordingly, a new rule is to be introduced for properties located in a jurisdiction in which the individual is not tax resident.
This will apply both to non-residents disposing of UK residential property and UK residents disposing of properties located outside the UK.
Under this rule, a residence will not be eligible for PPR for a tax year unless:
- the person making the disposal is tax resident in the country where the property is located for that tax year; or
- the person spent at least 90 days in that property in that tax year - the "90-day rule". (If a person has more than one property in a country in which they are not tax resident, he or she may aggregate the number of days spent in any of those properties (or qualifying units) in the relevant tax year in order to meet the 90-day rule. One of those properties may then be nominated for PPR.)
A nomination by a non-UK resident individual of a property will not be effective unless the individual meets the 90 day rule for that tax year. If the 90-day rule is not met the person will be regarded as absent from the property for that tax year.
The day count test is met for a day for the purposes of the 90-day rule if an individual is present in the property (or other qualifying unit) "at the end of the day". This contrasts with the response document which required the individual to be present "at midnight". It also remains unclear as to whether "present" requires physical presence or is a more general concept of staying at the property.
Occupation of a residence by one spouse or civil partner will count as occupation by the other, but double-counting will not be permitted.
PPR will be available to trusts where a beneficiary meets the relevant criteria for residence or the 90-day rule. This will apply to both UK resident and non-resident trusts.
Subsidiary features of PPR, such as absence relief, lettings relief and final period relief, are not being amended in consequence of extending CGT to non-residents, beyond what is necessary to give general effect to the changes.
Where applicable, a non-UK tax resident may need to ensure that they re-occupy a property in accordance with the day count after a period of absence in order to qualify for absence relief.
Periods prior to April 2015 may be taken into consideration for the purposes of PPR.
For non-residents, nominations to treat a residence as their only or main residence are to be made at the time of disposal.
As proposed in the consultation, the rates of tax for the new CGT charge on non-residents are to be the same for non-UK resident individuals as for UK residents who pay CGT at their marginal rate of income tax.
So for taxpayers paying at basic rate, the rate will be 18% and for those liable at higher/additional rate, it will be 28%. For non-residents, the rate will depend on their total UK income and gains. The annual exempt amount for gains (£11,000 for tax year 2014/15) will also be available to non-residents.
For trustees, the rate will be 28% and the annual exempt amount will be available at half the rate for individuals.
The tax rate for companies will be 20%, mirroring the rate paid by UK resident companies. Non-resident companies will also have access to limited indexation allowance and group companies will be able to enter into "pooling" arrangements to aggregate gains and losses on UK residential property across a group. There will be a "de-pooling charge" on companies that leave a pooling arrangement.
Calculation of gains
The new rules will not apply to gains relating to periods prior to 6 April 2015. There will be three options available, as follows:
- the default option will be rebasing to market value as at 6 April 2015 (in which case, any post-6 April 2013 gain may be liable to ATED-related CGT, if relevant for that period);
- time apportionment of the gain will be available unless the property is also subject to ATED-related CGT;
- taxpayers may also elect to compute the gain or loss over the entire period of ownership. This mirrors the position under ATED-related CGT.
With regard to changes in use, where there are consecutive changes in use, straight line time apportionment will apply. For concurrent mixed use of property, the draft legislation provides for "a fair and reasonable apportionment" to be made, which will be dependent on the facts of each individual case.
Losses on disposals of UK residential property will be ring-fenced for use against gains on such properties arising to the same non-UK residential person in the same tax year, or carried forward to later years.
If a person's residence status changes from non-UK resident to UK resident, unused UK residential property losses will be transferable and available to be used as general losses against other chargeable gains.
Where a UK resident becomes a non-UK resident, he or she will be able to transfer unused losses relating to UK residential property so that they are available to set against future UK residential property gains.
Reporting and payment
Under the existing proposals, for which draft legislation has not yet been published, a non-UK resident disposing of UK residential property will be required to notify HMRC within 30 days of the property being conveyed that the disposal has occurred. HMRC will need to be notified where there is a loss, or no gain, or if any gains are made that are covered by the applicable annual exempt amount. A PPR nomination will also be made by way of this notification.
Where a person has an "existing relationship" with HMRC and the disposal is not exempt by virtue of PPR, they will be required to deliver their self-assessment return after the end of the tax year and make any payment due within the usual timescales.
Any payment on account made will be recorded as a credit on the person's self-assessment statement. An existing relationship will not include the declaration of the disposal or an ATED-related CGT return.
A person who does not have an existing relationship will be required to deliver a return for the disposal and make payment of any tax due within 30 days. Amendments of such a return will be permitted within 12 months following the normal self-assessment filing date for the tax year in which the disposal is made.
- For UK residents disposing of UK residential property (and other assets), CGT has always been an issue and since the introduction of the ATED-related CGT charge it has also become a consideration for non-residents disposing of such property, albeit until now limited to companies and certain other non-natural persons.
- With the introduction of the new wider CGT charge for non-residents with effect from 6 April 2015, it will become much harder for non-resident individuals, trustees or closely-held entities to avoid a potential CGT charge on a disposal of UK residential property, except where such property may qualify as the main residence of an individual for the purposes of PPR.
- The new rules proposed for PPR will mean that some non-residents may be unable to claim PPR in respect of a tax year without becoming UK tax resident for that tax year. This is because of the requirement to spend at least 90 days in their UK property or properties in a tax year in order to make the claim.
- While it is possible for someone to spend this length of time in the UK and remain non-resident under the statutory residence test whilst doing so, care will need to be taken in respect of counting days and ties with the UK, and, where this may be an issue, ensuring they spend sufficient days in a home overseas to avoid becoming automatically UK resident under the relevant automatic residence test.
- However, if a property is likely to qualify for PPR under the new rules, this may make it preferable for an individual (or trustees) to hold it directly rather than via a company. On an acquisition of a property directly by an individual or trustees, SDLT will be at standard residential rates (albeit the changes to the applicable rates of SDLT mean that, from 4 December 2014, the overall SDLT charge may be significantly higher than would have been the case previously for higher value properties). ATED will not be an issue. However, the property will be within the IHT net unless other forms of IHT mitigation are put in place.
- Lower value properties may fall within a couple's joint nil rate bands (currently £325,000 each or £650,000 jointly). If there are no other significant UK assets to consider, no additional IHT planning may be necessary and such a property could be held directly unless there are other considerations. SDLT on an acquisition of a property within this range is also likely to be lower under the new rules.
- For IHT mitigation purposes, a property may be purchased with a mortgage to reduce its value in a non-domiciled individual's estate. Legislation introduced in 2013, which restricts the deductibility of liabilities for IHT purposes in certain circumstances, may limit the effectiveness of such a strategy where it applies. However, in such circumstances, other options for IHT mitigation, such as insurance, may still be available.
- For an individual wishing to invest in UK residential property generally rather than in any specific property, investing in a UK REIT or foreign REIT-equivalent, or other diversely held fund or non-resident company investing in property, may be an alternative tax-efficient option.
- For non-UK resident individuals wishing to invest in a specific residential property for business purposes, it will generally be preferable to set up a non-resident company to make the investment because of the lower rate of corporation tax (20%) compared with CGT (28%).
- Non-residents may also wish to register with HMRC in order to defer payment of the tax due on disposal until the self-assessment return date (which could be up to 18 months later).
Subject to the application of a relief where available, the introduction of a new CGT charge for non-residents disposing of UK residential property with effect from 6 April 2015, will catch gains on disposals of UK residential property of any value by individuals and most other closely-held entities not within the scope of ATED- related CGT.
The overall tax costs of holding a UK residential property for private use through a corporate envelope will continue to be greater than doing so directly to the extent that higher rate SDLT, ATED and (at least for individuals taxable at 18% under the new CGT charge) ATED-related CGT may apply to an enveloped property.
However, the distinction between the respective tax costs of acquiring and owning high-value residential property through a company rather than directly has been reduced with the increase in the top rates of SDLT.
While higher rate SDLT for properties over £500,000 acquired for private use through companies and certain other entities applies at 15% for the whole of the purchase price, at the higher end of the property market, even standard rates of SDLT are likely to result in a significant SDLT charge.
The fact that CGT will potentially apply at rates of up to 28% to gains on any disposal of UK residential property by a non-resident individual or trustee after 6 April 2015 may further tip the balance back towards a corporate holding structure where there are other advantages to such a structure.
These might include the inheritance tax advantages of holding a property through an offshore company, possible privacy reasons and practical advantages, such as avoiding probate on the death of a property owner. Of course, careful consideration of all the relevant circumstances will be required to determine whether this may be the case.
It must also be borne in mind that the new rates of ATED applicable from 1 April 2015, and mentioned above, are a significant increase from the existing rates. Over time, if these annual rates continue to rise significantly, they will begin to reinstate, and possibly widen, the previously substantial differential in tax cost between acquiring and holding residential property directly and through a corporate vehicle.
Accordingly, any non-UK resident who owns or is considering acquiring UK residential property, whether through a holding structure or otherwise, or is considering disposing of such a property, may wish to review the position before the new rules take effect, in order to determine the best way to proceed.