This note provides a brief outline of the tax and other issues arising from existing and proposed legislation affecting UK residential property, which may be relevant in an analysis of the available structuring and re-structuring options for such property.
The UK Government has proposed that from April 2017, foreign companies and other non-UK vehicles holding UK residential property will be regarded as transparent for inheritance tax (IHT) purposes, regardless of the domicile status of the underlying beneficial owner or settlor.
The Government has not yet consulted or legislated on the proposed changes. However, individuals and trustees with residential property holdings, who are concerned about the changes may wish to consider re-structuring options well in advance of the anticipated April 2017 deadline, to avoid rushing important decisions and to anticipate potentially lengthy liquidations.
For many years, it was possible for non-UK domiciled individuals, particularly those who were also non-UK residents, to buy and hold residential property in the UK with relatively few tax costs, provided that they planned and structured such a purchase carefully, ideally in advance of buying a property.
However, the UK tax landscape has changed radically in recent years, with the introduction in 2012, 2013 and 2015 respectively of higher rate stamp duty land tax (SDLT) at 15%, the annual tax on enveloped dwellings (ATED) and its relative, ATED-related capital gains tax (CGT), and non-resident CGT for disposals of residential property not already caught by ATED-related CGT.
Most recently, as from 1 April 2016, the UK Government introduced a new 3% higher rate of SDLT for acquisitions of certain interests in additional dwellings (or first and subsequent dwellings acquired by companies and trustees, in certain circumstances).
With these changes, and the proposed changes to IHT, many residential property owners are reconsidering the benefits of holding property through an offshore structure and considering alternatives, including holding such property directly, either by an individual or in a trust without a company.
Proposed disclosure of beneficial ownership
Another recent Government proposal - that foreign companies may be required to disclose their beneficial ownership before they are allowed to buy land and property in England and Wales - is likely to add further to the factors weighing against such structures, potentially removing one of the main non-tax advantages of indirect property ownership - privacy.
Taxation of UK property
In general, there are three main categories of direct UK taxes that are relevant in the context of ownership of UK residential property:
- Income tax on any rental income from the property;
- Capital gains tax (CGT) - whether ATED-related CGT (for properties within the charge to ATED discussed below), non-resident CGT (for properties held by non-UK residents other than those subject to a relief or exemption), or otherwise - on a disposal of the property at a gain; and
- Inheritance tax (IHT) on transfers of value on death or, in specified circumstances, during an individual's lifetime or during the lifetime of a trust.
In terms of indirect taxes, the following may be relevant:
- SDLT is payable by purchasers of UK residential property, at rates which vary between 0% and 12% according to the value of the property.
With effect from 1 April 2016, a higher SDLT rate of 3% may be added to the existing rates of SDLT on a purchase of a major interest in a dwelling for more than £40,000. It is paid by individuals who acquire a second or subsequent residential property, unless a main residence is being replaced (or some other exemption applies) and by companies on any dwelling over £40,000 within the rules, not just an additional property. Trustees and partnerships are also liable to the higher SDLT rates in specified circumstances.
Companies and certain other non-natural persons (NNP) may be subject to higher rate SDLT at 15% on an acquisition of residential property valued over £500,000 ('higher value' property) and, if this is the case, they will not also be liable to the additional 3% rate.
No SDLT is payable on gifts of UK property unless the gift is to a connected company, or on the transfer of shares in a company deriving its value from UK property (although in the case of a transfer of shares in a UK company, stamp duty at a rate of 0.5% may be payable).
- ATED - for residential properties valued over £500,000 (as at 1 April 2012 or date of acquisition, if later) and owned through an NNP, ATED may also be relevant. This charge is payable annually for the period between 1 April one year and the following 31 March, unless an applicable relief is available, such as for property rental businesses.
Options for acquiring and structuring UK property
The principal (but not the only) structuring options available for wealthy non-UK resident and/or non-UK domiciled individuals acquiring UK property are, as follows:
- Direct ownership by an individual;
- Ownership through a single-purpose, foreign-registered holding company, the shares of which are owned by (an) individual(s); and
- Ownership through a foreign-registered holding company, the shares of which are owned by non-UK resident trustees of a discretionary trust created by (a) non-UK resident and non-UK domiciled individual(s).
- Direct ownership by non-UK resident trustees of a discretionary trust, as above.
The form of ownership that will suit each individual investor will vary not only according to his or her personal tax circumstances but also, and often more importantly, according to other factors such as privacy of ownership, the avoidance of probate or any applicable forced heirship rules, such as Sharia law or those of many European and other civil law countries.
After consideration of all relevant issues, owners of UK residential property who already hold such property through an offshore structure, whether a company, by trustees directly, or a company held within a trust, may decide to re-structure their property, possibly even collapsing the holding structure entirely to hold the underlying property directly. Doing so may have the added benefit of removing some or all of the on-going costs involved in the administration and management of a company and/or a trust.
While there are a number of alternatives, in many cases, this will involve either a transfer of shares to trustee or individual shareholders, followed by the liquidation of an offshore company, or liquidation of the company resulting in transfer to the shareholders of the property itself. In some cases, the underlying property may also be transferred from trustees to an individual beneficiary.
UK tax issues are also likely to arise on any re-structuring.
SDLT: If there is borrowing within the structure, there may be SDLT issues to consider when the property is transferred to shareholders. In certain circumstances, it may be possible to manage this by discharging any such debt.
CGT: There may be a CGT charge, including ATED-related CGT and/or non-resident CGT, on a disposal or deemed disposal of the property if the property has increased in value since acquisition, or since 2013 or 2015, as relevant (depending on which type of CGT applies).
IHT: If the UK property is held by the trustees directly, an IHT charge of up to 6% of the value of the property may arise on transfer to an individual beneficiary.
Timing will be an issue where liquidation of a company is involved and, depending upon the jurisdiction in which the company is registered, this may take several weeks, or even months. Therefore, where there may be a deadline for re-structuring to occur, possibly 6 April 2017 in many cases, timing will have to be carefully considered.
Where possible, in light of the IHT and disclosure measures that are being considered at the moment, ideally no final decisions should be taken until the proposals are clear. For example, transitional measures may be put in place to mitigate some or all of the tax charges that might otherwise arise if a complex structure is collapsed.
Such provisions may not be available retrospectively if re-structuring is carried out too soon. However, there is considerable merit in considering these issues now and preparing a step plan for how to deal with them if their implementation is as expected, in view of the time pressure that there is likely to be in the run up to 6 April 2017.
While the recent and planned legislative changes in the UK may appear negative, they do also present a number of opportunities. For example, the need to consider re-structuring provides an opportunity to review an existing structure for succession planning purposes. If a structure is being wound up or altered, what will replace it? Companies holding residential property and traditional trust/company structures may be dissolved in favour of more suitable and modern arrangements or family governance structures.
However, investors may wish to consider retaining a trust in which trustees hold a UK residential property directly, given that this structure does offer a number of non-tax benefits that may offset the tax costs involved. These include estate planning advantages and ease of administration, as well as protection against the requirements of Sharia law and other civil law forms of forced heirship.
Alternatively, individuals may consider balancing their portfolio with UK commercial property or other assets. This would allow them to preserve their existing structures while retaining tax benefits no longer available with residential property.
We hope that the position will become clearer over the next few months in order to give time for decisions to be made and re-structuring to be undertaken where necessary, before the proposed IHT measures are introduced, due to be with effect from 6 April 2017.
In the meantime, it is important to begin analysing possible options for acquisition or re-structuring of UK residential property as soon as possible in order to be able to act swiftly, if necessary. If you would like further information, or to discuss available alternatives, please contact a member of the Private Capital team.