Everfair Tax

Specialists in UK, US and Expatriate Tax.

Beneficiary-Taxed Offshore Trusts

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Income Tax

In the previous part in our Offshore Trusts series we considered the UK income tax and capital gains tax treatment of settlor-interested offshore trusts.  In this fourth part of our series we consider the income tax treatment of non-settlor interested, or beneficiary-taxed, offshore trusts.

This is part 4 of our Offshore Trusts blog series, written by our Senior Tax Manager Lawrence Adair. Read part one here: ‘All you need to know about Offshore Trusts’ . Read part two here: ‘Residence Positions and Offshore Trusts’ Read part three here: ‘Settlor-Interested Offshore Trusts’

Income tax on beneficiary-taxed offshore trusts – trustee position on UK income

UK income received by a beneficiary-taxed offshore trust is initially taxable on the trustees at a rate depending on the type of trust and income source.  As noted in the first of our series, trusts can either be on a discretionary or life interest basis.  The initial rate of income tax for each type is:

Discretionary:       up to 45% depending on the income source

Life interest:         up to 20% depending on the income source

Income tax on beneficiary-taxed offshore trusts – trustee position on non-UK income

Unlike UK income, non-UK income received by a beneficiary-taxed offshore trust is not taxable on the trustees.

Income tax on beneficiary-taxed offshore trusts – beneficiary position generally

How a beneficiary of a beneficiary-taxed offshore trust is taxed depends on the type of trust and their residence.

Income tax on beneficiary-taxed offshore trusts – beneficiary position for discretionary trusts

A beneficiary of a discretionary offshore trust is taxed in the UK according to income distributions received; with the situs of the income being non-UK.

If the beneficiary is non-UK resident they are not taxable in the UK on income distributions received. But may be able to claim repayment of any UK income tax paid by the trustees.

A UK resident beneficiary, on the other hand, is taxed at up to 45% depending on their income levels. With credit given for the UK tax paid by the trustees (provided the trustees are fully UK tax compliant).  As well as income distributions; it is possible for payments which are capital in nature to be matched to foreign source income where broadly there was a UK tax avoidance motive in setting up the trust.  Capital payments for this purpose include notional payments. Such as low or interest-free loans or low or rent-free use of assets.

As noted in the last part of series, there can be occasions where a settlor is assessable on discretionary distributions of trust income received by their minor children including on all distributions relating to UK source income.

Income tax on beneficiary-taxed offshore trusts – beneficiary position for life interest trusts

A beneficiary of a life interest trust is taxed in the UK according to their share of trust income for each tax year – with the situs of the income being based on the underlying sources.  The income assessed on them can include income from underlying offshore companies. Where broadly there was a UK tax avoidance motive in setting up the trust structure.

If the beneficiary is non-UK resident they are only taxable in the UK at up to 45% on UK income sources.

A UK resident beneficiary is taxed on all sources at up to 45% depending on the underlying sources and income levels.

For both non-UK and UK resident beneficiaries a credit is given for the UK tax paid by trustees.

As with discretionary trusts, a settlor will be assessable on UK trust income attributed to their minor children and possibly non-UK income.

UK resident but non-domiciled beneficiaries – remittance basis

A beneficiary tax charge for a UK resident but non-UK domiciled beneficiary is subject to a remittance basis claim for where the distribution is not remitted to the UK.  This could be for the entire distribution in the case of a discretionary trust. Or the underlying non-UK sources in the case of a life interest trust.

3 most important points to take away

  • One factor affecting UK Income tax for beneficiaries of beneficiary-taxed offshore trusts is the type of trust. For discretionary trusts they are assessed based on distributions received. Whilst, for life interest trusts assessment is based on income as it arises
  • Residence status of beneficiaries of beneficiary-taxed offshore trusts impacts the extent to which they are assessable to UK income tax on trust income. A non-UK resident beneficiary is not assessable to the extent of non-UK income. (Which for a discretionary trust is the whole distribution received)
  • The settlor of a beneficiary-taxed offshore trust remains assessable to UK income tax for most trust income received by their minor children, particularly UK source income

Written by Lawrence Adair

Settlor-Interested Offshore Trusts

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Settlor-taxed non-UK resident trusts – income tax and capital gains tax

In the last part in our series on offshore trusts we considered rules for establishing trust residence.  Once it is established that a trust is non-UK resident, our thought turns to how it will be taxed in the UK.  A key consideration is whether the settlor retains an interest in the trust, i.e. whether it is settlor-interested.   In this article we consider when a trust is settlor-interested for UK income tax and capital gains tax purposes and the tax implications of this.

This is part 3 of our Offshore Trusts blog series, written by our Senior Tax Manager Lawrence Adair. Read part one here: ‘All you need to know about Offshore Trusts’ . Read part two here: ‘Residence Positions and Offshore Trusts’

The definition of settlor-interested for capital gains tax is wider than that for income tax.  Each tax is considered separately below, starting with income tax.

Income tax – definition of settlor-interested

For income tax, a settlor is broadly treated as having an interest in a trust if trust assets are or may become payable to, or applicable for the benefit of, the settlor or his spouse / civil partner.  For clarity on the position, trust deeds often explicitly include or exclude the settlor and their spouse / civil partner. 

Income tax on settlor-interested trusts – UK income

UK income received by a settlor-interested offshore trust is initially taxable on the trust at up to 45%. This is depending on the type of trust and income source.  However, the income is also taxable on the settlor at up to 45% including income from underlying offshore companies, where broadly there was a UK tax avoidance motive in setting up the trust structure.

To avoid double taxation the settlor gets credit for the income tax paid by the trust.  In addition, if the settlor is required to pay additional tax on trust income then the additional liability can be recovered from trust.  Conversely, if the settlor receives a tax refund this must be paid over to the trust.

A settlor can also be assessable on trust income where their minor child can benefit.  This is not a general assessment on them but only where their child receives a distribution from the trust.

Income tax on settlor-interested trusts – non-UK income

Unlike UK income, non-UK income received by a settlor-interested offshore trust is not taxable on the trust. But the default position is that it is still taxable on the settlor at up to 45%.  Again, this includes income from underlying offshore companies. Where, broadly there was a UK tax avoidance motive in setting up the trust.

However, settlor-interested rules are ‘switched off’ for certain trusts created by non-UK domicilairies. If the non-UK income is ‘protected foreign source income’. In which case, the income is only assessable when it is distributed.  Furthermore, the settlor will only be assessable to the extent that they receive a distribution. (Except for exceptions for distributions to a spouse or minor child who are not immediately assessable to UK tax on the distribution.)

Conditions

Several conditions apply for income to be protected foreign source income, mainly focused on the settlor’s domicile.  They must have been non-UK domiciled and not deemed domiciled when the trust was created. And not have become UK domiciled or a ‘formerly domiciled resident’. (Broadly born in the UK with a UK domicile at birth and has returned to the UK.)

Tainting

Also crucial is that the trust must not become ‘tainted’ so care is needed to avoid this.  Tainting occurs when the settlor provides property or income, for the purposes of the trust, at a time when they are UK domiciled or deemed domiciled.  This includes property provided directly or indirectly.  Tainting occurs from the first tax year in which property is provided.  An obvious example of tainting is where further assets are added by the settlor.  Less obvious examples of tainting include settlor loans where the interest charged is less than HMRC’s official interest rate. 

A settlor tax charge is subject to a remittance basis claim where the distribution is not remitted to the UK.

Protected Trust

A protected trust will be particularly useful where a settlor can no longer claim the remittance basis. And trust distributions can be restricted to being made only when required.  They can also allow avoiding the need to pay the remittance basis charge where the settlor’s only non-UK income is protected trust distributions brought to the UK.

As well as income distributions, it is possible for distributions which are capital in nature, to be matched to protected foreign source income. Where, broadly there was a UK tax avoidance motive in setting up the trust.

Capital gains tax – definition of settlor-interested

There is a wider, more complex, definition of settlor-interested for capital gains tax purposes.  As for income tax it includes where the settlor or spouse /civil partner can benefit. It also includes potential or separated spouses, children, grandchildren and companies controlled by any of these individuals.  However, for a trust to be settlor-interested for a particular tax year, a defined person must be able to benefit, and the settlor must be both UK resident and UK domiciled.

For the domicile requirement, there are protections to ignore deemed domiciles. These mirror the income tax protections outlined above for foreign income, including tainting of the trust.  If the protections are met, the trust is not settlor-interested for capital gains tax.

Capital gains tax – assessment of gains on settlor

An offshore trust is not liable to capital gains tax except for gains on UK property interests.  Instead non-UK property gains are either assessable on the settlor or beneficiaries with those realised by a non-protected settlor-interested trust assessable on the settlor at up to 28% depending on the type of gain.  This includes gains from underlying offshore companies, where broadly there was a UK capital gains tax or corporation tax avoidance motive in setting up the trust.

To avoid double taxation the settlor can recover any capital gains tax paid from the trust.

Trust capital losses, however, can only be set against settlor-interested trust gains of the same or future tax year.  They cannot be set against the settlor’s personal gains.

3 most important points to take away

The settlor or his family benefitting from a trust can make it settlor-interested so that the settlor is assessed on trust income and gains as they arise.

Non-UK domiciled settlors can be protected from settlor-interested rules so that foreign income or gains assessed on them are limited to distributions.

For non-UK domiciled settlors to benefit from settlor-interested trust protections it is important that the trust does not become tainted.

Written by Lawrence Adair

Leaders Council Podcast featuring Gillian Everall

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Our founder and Managing Director, Gill recently featured on the Leaders Council Podcast. She discussed topics including:

  • Being a founder and entrepreneur
  • Her personal journey and growth
  • Navigating our business and team through unprecedented times
  • Looking after own mental health as well as her team
  • Where she draws her inspiration and motivation from
  • And much more

We’ve shared the transcript of the conversation below for you:

Did you always know early on that being an entrepreneur would be the way for you?

Absolutely not, it was the furthest thing from my mind when I started. It really stemmed from wanting to change things up a bit after 20+ years of working at large organisations. Taking a hard look at my life and what I wanted. It almost just inspired a eureka moment of seeing if I could achieve a better work life balance. 

You took some positives and negatives from establishing yourself in one of the big four firms and working in the top consultancy firms in the City (London). Do you think these experiences set you up well?

Yes definitely! I worked with senior management. I looked after teams and I got a sense of what it would be like before starting myself.

From an operational and leadership perspective, what was it like guiding your company through covid and all the related, immense challenges that came with that?

It was all about team cohesion and trying to maintain productivity and motivation. Especially during a time where none of us had direct experience of working in that way and running a business like that.

The power of communication, transparency, mutual trust and respect were the pillars I followed.

When it comes to mental health, how important is it to safeguard – not only that of your employees in leadership roles – but also that of yourself? Because when you’re in the thick of it with a crisis, when it comes to mental health especially, would you agree that protecting your own is important?

Incredibly important, yes! One of the messages that resonates loud and clear with me is: ‘if you don’t look after yourself, how can you look after those that you lead’. Be honest with yourself. I’ve developed a mechanism to identify when I’m not doing well. Then, how I can nip it in the bud and how I can get myself back on track. Back to where I want to be. It’s also important to develop an outlet.

Do you think we can draw any positives post covid?

We’ve come out with a more cohesive team, who feel respected, appreciated and listened to. Understanding that there’s no one size fits all. Respect people’s individuality. Try to account for the fact that how people feel at any given time will be different and varied. We can plan accordingly. Conversations need to be had and time needs to be given. That way we can try to understand exactly what’s going on with people. We can figure out where their heads are at and best support them. We’ve listened to the team every step of the way with coming back to the office environment. We’ve heard their thoughts and their concerns with returning to the office. Hopefully, this puts us in a stronger position going forward.

You’re at the top of the business, so others naturally will look to you for answers and for inspiration. Both in times of crisis and normal times. Where do you seek your own inspiration from. Where do you get your own motivation to get out of bed and go to work every day?

A number of ways really. I get my inspiration from everyday life and people I meet along the way. Fortunately in the role that I have I meet a lot of incredible people on a regular basis. Our clients have incredible stories to tell which provides an awful lot of inspiration. It creates a wish to emulate some of the really positive things they’ve been able to achieve. 

What gets me out of bed in the morning? The prospect of creating an environment for the team and our clients that they appreciate. I’m taking the positive and negative learnings from my career to create the best place to work. I also intend for Everfair to be the most proactive and supportive place for our clients that we can be. And that’s really enough if I’m honest. 

We’re never really a finished product are we, we’re always learning. For anyone wanting to start their own business, what advice would you give?

Every day needs to be a learning experience, you need to embrace that. You need to realise you will make mistakes and it’s ok. Those will become your great lessons. Appreciate the power of listening and seeking external support and advice. You will need other people around you, businesses are successfully built by teams, not just individuals. It’s about finding your support network and your team. Stay open minded. 

Any other key things you’ve learned?

One of the first things I realised was that it’s actually important to learn and identify what I wasn’t good at, rather than what I was good at! Then, I can find people around me to fill those gaps and to learn from them. That’s what success looks like. 

With regards to the future, what’s on the horizon?

The plan for Everfair Tax for the coming 12 months is to really focus on team development and team growth. We want to be making the best of the people we have. We want to really grow the skills of our team internally. We’re also going to be looking for graduates and school leavers to come and join the team. We’ll train them up and watch them grow and develop. We’re going to continue building our referral network and client base too.

There must be great satisfaction with driving a team forward?

That’s where my greatest satisfaction comes from. Watching people achieve what they’re capable of and knowing that I had a part to play in that.

UK Spring Budget 2022

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The Chancellor Rishi Sunak delivered todays Spring budget under the backdrop of inflation being revealed to have risen to 6.2%. The highest rate of inflation for 30 years. This had been made worse by rising fuel prices and will result in significant increases to the cost of living. There is also recognition of the situation in the Ukraine. The impact the ongoing conflict may have, as well as the relatively slow growth being seen in our own economy. In addition to the need to reduce the level of debt built up during the last two years to fund COVID measures.

Inflation, Growth and Debt Repayments

To make his point, during his statement the Chancellor referenced these cumbersome estimates from the Office for Budget Responsibility on inflation, growth and debt repayments.

  • Inflation forecast to average 7.4% this year
  • UK growth expectation downgraded to 3.8% this year
  • UK to spend £83bn on debt interest in the next year

In line with the relatively low expectations of change ahead of today’s announcement, there were relatively small immediately effective measures to ease the burden of the cost of living were set out. There was however the promise of a 1% cut in income tax rates before the end of the current parliament in 2024 first cut to the basic rate of income tax in 16 years – from 20% to 19% – by the end of Parliament in 2024

Despite the economic picture painted and other indications given in advance as to the limited ability to make sweeping cuts that would have an immediate impact a shout of ‘is that it?!’ could clearly be heard from the Labour benches and there has been disappointment expressed at the fact that the proposed heath and social care level and subsequent NI rate increase were not scrapped as had been hoped for.

What you need to know

Here therefore are the key take aways from today’s Statement:

  • A cut to the basic rate of income tax. From 20% to 19% – by the end of Parliament in 2024
  • Fuel duty will be cut by 5p a litre from 18:00 GMT until March 2023
  • The National Insurance threshold will be raised by £3,000. Meaning people must earn £12,570 per year before paying income tax or NI. It’s a tax cut for 30 million people worth over £330 a year, says Sunak
  • VAT will be scrapped on home energy-saving measures such as insulation, solar panels and heat pumps
  • The Household Support Fund for local councils to help the most vulnerable will be doubled to £1bn from April
  • Retail hospitality and leisure sectors will have a 50% discount in business rates up to £110,000
  • Employment Allowance will increase to £5,000. Claiming it is a tax cut worth up to £1,000 for half a million small businesses.

Year End Tax Planning 2021/2022

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Tax Planning Opportunities Reminder

As we move towards the end of the tax year it is important to consider whether full advantage has been taken of tax planning opportunities available to individuals. And if there are any actions which it is worth taking before 5th April.

Things to consider:

  • Has full advantage been taken of the pension annual allowance. Is there any carry forward allowance which may be about to expire. This can include for children and non working spouses although limited to £3,200 per annum
  • Has full advantage been taken of ISA allowances
  • Has the capital gains tax annual exemption been fully utilised including both annual exemptions available to a married couple
  • Is it appropriate to realise any capital losses to offset any capital gains which would otherwise be taxable
  • Has full use been made of the savings annual allowance, dividend allowance and lower rate bands. 
  • Has consideration been given to any charitable donations. It may be appropriate to make now if future income levels are likely to be lower than currently
  • Are there any IHT planning steps which should be taken before the end of the tax year. Such as the annual gift allowance and gifts out of surplus income which should be made annually.

Additional points for non UK domiciliaries to consider

Where the individual will reach a residence milestone such as 7 of 9 years and 12 of 14 years and 15 of 20 tax years, there may be transactions that can be undertaken in the current tax year. This may avoid the need for a remittance basis charge to be paid, or ensure that it it benefits from the remittance basis rather than being taxed on the arising basis as a deemed domiciled individual. 

Those who are newer to the UK should also consider whether they wish to make a capital loss election. The deadline for this is four years after the end of the tax year for which the remittance basis was first claimed. 

If you would like any advice on your year end tax planning please don’t hesitate to get in touch.

US Tax Reform Update

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Tax Reform Under The Biden Administration

US tax reform under the Biden administration remains very much a moving target. Therefore, it is something on which we can provide little in the way of definitive guidance.  However, it is perhaps worth a reminder of the current state of affairs, insofar as it might impact US taxpayers living overseas.

It is fair to say that many of the proposals originally put forward have been heavily diluted, or dismissed altogether. There are still some key points worth noting. 

Income Tax Rates

The Biden tax plans proposed an increase in the top rate of Federal income tax from 37% to 39.6%. Reverting to the situation as it was before former President Trump’s tax reforms.  This increase is not included in the bill passed by the House of Representatives.

There were also proposals to increase in the rate of tax applied to long term capital gains, which have not made it into the final bill passed by the House.

For most taxpayers, this means that there will be no significant change to the tax rates applicable to them.

Surtax

Despite the removal of the proposed changes to tax rates, the House bill does contain a provision imposing a 5% surtax levied on an individual’s income in excess of $10m. ($5m for married persons filing separately, $200,000 for an estate or trust.) Plus, an additional 3% on income in excess of $25m. ($12.5m for married persons filing separately, $500,000 for an estate or trust.)

This proposal creates a tax charge, which is unlikely to be offset by credits for foreign taxes paid. Thus, would result in a genuine double-taxation issue.

Foreign Tax Credits

One change included in the House bill, which will be of considerable significance to US taxpayers living overseas, is a proposal to scrap the carryback of excess foreign taxes effective for tax years beginning after December 31, 2022. 

Under current rules, if a taxpayer has paid more foreign tax than they are able to utilise for a tax year, they are able to carry the excess back to the previous year if there is scope to make use of those taxes in that year.

If the bill does pass in a form which contains the withdrawal of the carryback provision, it will mean a renewed focus for US taxpayers overseas to carefully plan the timing of their foreign tax payments to prevent unwanted double taxation problems.

State and Local Tax

The House bill does contain some good news for those subject to State and Local taxes in the US.  Since 2018, the deduction allowed for such taxes for Federal income tax purposes has been limited to $10,000.  The House bill includes an increase in that cap to $80,000 ($40,000 for married persons filing separately).

Net Investment Income Tax

As expected, the 3.8% “Net Investment Income Tax” originally introduced with the Obamacare provisions is to be expanded should the bill get passed in its current state.  The extension of this tax would see it applied to business income for taxpayers whose income exceeds certain thresholds.

Gift and Estate Tax

There had been much talk of changes to the unified credit for gift and estate taxes, which currently stands at $11.7m per person.  It is notable that there is no provision in the House bill which makes any reduction to this amount.

Summary

With the President himself admitting that these tax reforms are unlikely to be passed anytime soon, and with resistance from key Senators, it would be no surprise to see further changes (and, no doubt, delays) to the bill as it makes its way through the Senate and on to Mr Biden’s desk.  This is therefore something to keep an eye on over the coming weeks, and maybe even months.

Written by Matthew Edwards

Trusting a Trustee

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Feature Article by Alex Picot Trust

Establishing trusts has long been a popular wealth structuring tool for high-net-worth families. It involves giving away legal title, ownership and an element of control of family assets to a business based in an overseas jurisdiction. 

A fundamental question for new clients is ‘Can I really trust a Trustee?’

Professional trust companies, operating in reputable and highly regulated jurisdictions have been providing fiduciary services to clients since the middle of the last century.  While the reasons for the use of trusts may have evolved over time the role that professional trustees fulfil remains as current as ever.

This article explores why clients continue to be comfortable creating offshore family trusts.

Why do people use offshore trustees?

UK resident foreign domiciled individuals who have assets held overseas or people locating to the UK who have not yet arrived are able to have their surplus overseas wealth managed and controlled in specialist offshore finance centres.

Trusts can offer benefits in ensuring assets are held in a tax compliant manner for succession purposes, family governance reasons, to avoid future dilution or break up of family businesses or other cherished family assets.

Trustees can hold a wide range of assets from banking and traditional investment portfolios with quoted and unquoted holdings; real estate; family business assets; works of art; and moveables such as yachts and planes.

There continue to be tax advantages for the settlors and the beneficiaries of the trusts if the vehicles are structured correctly at the outset with professional legal and tax advice taken to ensure the arrangements are tailored for the needs of each individual family.

Oversight of the Trustee

Consider the offshore trust as a virtual overseas ‘warehouse’. 

The ‘warehouse’ can hold a wide range of family assets and investments. 

The settlor and beneficiaries of the trust have the rights to inspect the assets at any time and obtain full information on how they are being managed and looked after.

The Trustee has a written document (Trust Deed) which sets out the rules and regulations as to what powers sit with the Trustee and which regulate the actions the trustees are empowered to undertake.  The trustees can only take assets out of the ‘warehouse’ if they are for the benefit of the persons listed in the Trust Deed as beneficiaries. 

The trustees are also accountable to the beneficiaries to demonstrate that the investments have been professionally managed.  These obligations, enshrined in Trust Law, ensure that professional trustees are required to adhere to the highest standards at all times.

Settlors provide further guidance to their trustees through Letters of Wishes (LoW). 

While not legally binding (as if they were there would be a danger that the wide powers issued to the trustees under the terms of the Trust deed could be constrained) a LoW is a useful guiding document that settlors give to their trustees.  It sets out their views on how the trust assets should be managed and their wishes on future distribution policies.

A LoW is particularly important once the settlor is no longer alive or able to communicate with the trustees.  The LoW can be updated at any time and trustees regularly review the contents of these with the Settlor.

What role does a Protector play?

The Trust Deed can contain provisions for certain powers to sit with an independent third-party called a Protector. 

In most instances these powers are limited to the hiring and firing of trustees, but can also be extended wider (subject to tax considerations around the jurisdiction of the Protector) to include protector consent being required for any changes to the beneficiaries, investment strategy or to consent to distributions above a certain threshold.

Having a trusted individual (perhaps a business associate or long-standing family advisor) act as Protector ensures that there remains an independent set of eyes and ears to look out for the beneficiaries and to step in and effect a change of trustee should the need ever arise. This is a further incentive to ensure that trustees live up to the promises around their service levels made to their clients at the outset of the relationship. 

Additional Comfort – the right jurisdiction

Well-run and highly regulated International Financial Centres, such as Jersey, ensure that all businesses that provide trustee services to third parties must be properly licenced and are then routinely supervised by their regulator.  Key personnel in the business are individually assessed as being appropriate to manage the business. 

All employees are required to act with due skill, care and diligence when fulfilling their role and to act in the best interests of the client at all times.

Family Engagement

Trustees are required to keep full books and records of the structures that they administer. 

Face-to-face meetings between trustees and their clients are actively encouraged and regular review meetings with the participation of the legal / tax / investment advisors are an important way of ensuring that the structure remains up to date and continues to fulfil the purpose for which it was established. This also ensures trustees are aware of any changes in family circumstances.

Summary

Offshore trusts continue to play an important and relevant part of the overall design of an international family’s estate and wealth structuring arrangements. 

While the notion of parting with valuable family assets to an unfamiliar company in an overseas jurisdiction may seem alien at first, as can be seen, there are a number of ways of providing the assurance new clients seek when establishing a family trust. 

Each family’s circumstances are different and the solution that works for them will be determined with bespoke arrangements tailored to suit their requirements.

Written by Steve Gully and Hannah Roynon-Jones

About the authors

Steve Gully and Hannah Roynon-Jones, Directors at Alex Picot Trust

Alex Picot Trust is a management owned, private client focused independent trust company based in Jersey and has been providing fiduciary services to private families since 1932.

Alex Picot Trust is a registered business name of Alex Picot Trust Company Ltd which is regulated by the Jersey Financial Services Commission to conduct trust company business.

www.alexpicottrust.com

Additional Offshore Trust Blogs, News & Resources

  • 2024 Autumn Budget – Inheritance Tax

    2024 Autumn Budget – Inheritance Tax

    Reading Time: 2 minutesSummary of Changes for IHT; Individuals and Offshore trusts The current non-domicile tax regime, including the remittance basis of taxation, will be abolished from 6 April 2025.  It will be replaced by a new “residence based” approach.  This note focuses on how the changes affect inheritance tax (“IHT”).  Separate notes consider the…

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  • 2024 Autumn Budget – Offshore Trusts

    2024 Autumn Budget – Offshore Trusts

    Reading Time: 2 minutesSummary of Changes for Offshore Trusts The current non-domicile tax regime, including the remittance basis of taxation, will be abolished from 6 April 2025.  It will be replaced by a new “residence based” approach.  This note focuses on how the changes affect offshore trusts.  Separate notes consider the impact on income tax…

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  • Transatlantic Trust Issues and UK vs US Trusts

    Transatlantic Trust Issues and UK vs US Trusts

    Reading Time: 5 minutesComplications that can arise in UK/US trusts A family trust remains a popular vehicle to allow for the passing of wealth to the next generation. This is because it can provide flexibility, discretion and an element of control which is attractive to many. For US citizens, US trusts are often discussed in…

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  • Inheritance Tax for Settlor Interested Offshore Trusts

    Inheritance Tax for Settlor Interested Offshore Trusts

    Reading Time: 4 minutesInheritance tax for settlor interested offshore trusts In the previous part of our series on offshore trusts we considered the UK capital gains tax treatment of beneficiary-taxed offshore trusts.  In this sixth part of our series we consider the inheritance tax (IHT) treatment of settlor interested offshore trusts This is part 6…

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  • Capital Gains Tax on Beneficiary-Taxed Offshore Trusts

    Capital Gains Tax on Beneficiary-Taxed Offshore Trusts

    Reading Time: 4 minutesOffshore Trusts Series In the previous part in our series on offshore trusts we considered the UK income tax treatment of beneficiary-taxed offshore trusts.  In this fifth part of our series we consider the capital gains tax treatment of beneficiary-taxed offshore trusts. This is part 5 of our Offshore Trusts blog series,…

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  • Beneficiary-Taxed Offshore Trusts

    Beneficiary-Taxed Offshore Trusts

    Reading Time: 3 minutesIncome Tax In the previous part in our Offshore Trusts series we considered the UK income tax and capital gains tax treatment of settlor-interested offshore trusts.  In this fourth part of our series we consider the income tax treatment of non-settlor interested, or beneficiary-taxed, offshore trusts. This is part 4 of our…

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  • Settlor-Interested Offshore Trusts

    Settlor-Interested Offshore Trusts

    Reading Time: 5 minutesSettlor-taxed non-UK resident trusts – income tax and capital gains tax In the last part in our series on offshore trusts we considered rules for establishing trust residence.  Once it is established that a trust is non-UK resident, our thought turns to how it will be taxed in the UK.  A key…

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  • Trusting a Trustee

    Trusting a Trustee

    Reading Time: 5 minutesFeature Article by Alex Picot Trust Establishing trusts has long been a popular wealth structuring tool for high-net-worth families. It involves giving away legal title, ownership and an element of control of family assets to a business based in an overseas jurisdiction.  A fundamental question for new clients is ‘Can I really…

    READ IN FULL

  • Residence Positions and Offshore Trusts

    Residence Positions and Offshore Trusts

    Reading Time: 3 minutesBefore considering the UK tax position for an offshore trust, it is important to first determine that the trust – is in fact – offshore….

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  • What are Offshore Trusts and How Do Offshore Trusts work?

    What are Offshore Trusts and How Do Offshore Trusts work?

    Reading Time: 3 minutesIntroduction and background to Offshore Trusts Something we are frequently asked by clients is ‘what are the consequences of being a…

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Managing UK and US Pensions

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Understanding having pension schemes in more than one country.

In recent years, it is increasingly common for executives to have pension schemes in more than one country. Whether that has been from working abroad, or the option to become part of a pension scheme in another country. Therefore, the question often arises when we speak to a client; as to what to do with their pensions from a tax perspective.

Contributions

One of the first questions is often; whether you can get tax relief where you are now resident for contributions into a pension scheme in another country?

Under both the double taxation agreement between the UK and US, and under UK domestic rules, pension contributions to a plan in the other country can qualify for tax relief where you are resident. 

For tax relief to apply, you must have been contributing to the plan prior to becoming resident in the other country. In addition, the plan in question must be a qualifying retirement plan. 

Growth

Under the terms set out in the double taxation agreement between the UK and US, the growth in a qualifying plan in the other country, can’t be taxed where you are resident. Therefore, there is no need to report the annual income and gains received within a pension scheme. Nor the unrealised increase in the value of the assets held in the pension on an annual tax return. The treaty specifically lists IRAs and 401ks as qualifying pension schemes for this purpose.

Withdrawals

As a general rule, under the pensions article of the treaty, withdrawals from a qualifying pension scheme are taxed in the country of residence. This is regardless of where the pension scheme itself is based. However, this rule is subject to the savings clause contained earlier in the treaty. This clause effectively allows the countries to still tax the income on their nationals. Although, they have to provide credit for the tax paid in the country of residence.

It also provides that, where the country in which the pension plan is located would consider something as tax exempt, then it should be considered tax exempt where the person is resident. This would cover situations like the 25% tax free lump sum provided for under UK schemes. As well as the fact that withdrawals from Roth IRAs are tax free in the US. 

This provision is not subject to the savings clause in the treaty mentioned above. It has been the subject of much debate over the years. For example, whether the IRS would allow the 25% lump sum exemption on a distribution from a UK scheme to a US citizen if they are resident outside the US, due to unclear wording of the provision in question. 

Lump Sums

Where a person wants to withdraw their pension as a lump sum, in line with with the double taxation agreement, the pensions article states this is to be taxed where the plan is located. However, it is subject to the savings clause. This allows the country where the person is resident to also tax. This comes with a credit for the tax paid in the country where the plan is located. 

There has been discussion over the years between advisors about the definition of ‘lump sum’ for this purpose. This has included; whether it covers anything but a withdrawal of the whole pot. As well as whether it can still be a lump sum if you have previously drawn on the pension.

Other Charges

As well as the position on distributions, there are additional charges which can arise in respect of a pension. 

In the UK, this includes the lifetime allowance charge. This can apply at certain points when a person has more than their approved lifetime pension fund balance. The fund can vary between just over £1 million and £1.8 million depending on appropriate fixed and individual protections elections which have been made over the years. In the US, there is the 10% early withdrawal penalty if funds are withdrawn from a US pension prior to 59.5%, except in limited qualifying purposes.

The treaty doesn’t specifically provide for what happens with respect to these charges when the person receiving the funds is in the other country. Therefore, that country would normally have a right to tax regular distributions. There is very limited guidance or comment from both the IRS and HMRC. This means that such charges, where applicable, may be in addition to the normal income tax charge arising between the two countries.

Inheritance Tax (IHT) and Estate Tax

From a UK IHT perspective, UK schemes can generally be outside the scope of IHT. However, there is a potential issue with US pension schemes. These may qualify for the same treatment as domestic schemes, if they meet the conditions to be Qualifying Non-UK Pension Scheme (QNUPS) under the relevant regulations. Yet, there is an important difference in the way they are structured when compared to UK schemes.

With UK schemes, there is a non binding letter of wishes. This letter allows the trustees discretion over who they pay the funds to when a pension account holder dies. Although, they are likely to follow the letter of wishes. With the majority of US schemes, there is a binding nomination made as to who will receive the funds. This means the trustees have no discretion at all as to whom they pay the monies to on the account holders death.

This is a crucial difference as it means under UK tax rules, even if the scheme qualifies as a QNUPS, the value of the pension scheme is considered to fall back into the pension account holder’s estate for UK IHT purposes.

If you would like any help with your pension management. Or have any further questions on this topic, please don’t hesitate to contact us.

HMRC’s Top Enquiry Triggers

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Why would HMRC contact or investigate me regarding my tax return filing?

As we head to the end of the year and another UK tax return filing deadline, it is also the period where letters from HMRC may be arriving for taxpayers and their registered agents advising them of HMRC’s intent to conduct a compliance check into the 2019/20 return.

This is because with so many returns being filed in the December and January period, this marks the end of the 12 month window from filing that HMRC usually have to raise questions about a return they receive.

It is worth therefore understanding a few key points, should you receive such a letter. You ought to be aware of the main areas that, in our experience, lead to HMRC opening a compliance check.

What to do when you receive an HMRC Compliance Check Letter?

When you receive a compliance check letter from HMRC, the first step should be to engage with the HMRC Inspector who issued the letter as soon as possible. It will be very important to the successful closure of the enquiry that there is an understanding of what the concerns are which lead to the issue of the letter in the first instance.

Communication with the Inspector and providing clear indications of a wish to assist with the process and provide the required clarifications and additional documentation is also very important both to a prompt end to the enquiry and also to the question of any penalties should it be determined that there is additional tax to pay as there are reductions available in the penalty rules for cooperating fully with the enquiry and prompt provision of requested information.

Some areas of particular focus for HMRC in terms of concern around errors and insufficient tax being paid from our experience are as follows:

Top reasons why HMRC would investigate me regarding my tax return filing?

  • The claiming of foreign tax credits to ensure that these are calculated correctly and allowed under the relevant double taxation agreement or our domestic rules

  • Payment of the correct level of remittance basis charge for the number of years an individual has been resident in the UK

  • Unreported foreign income for those paying tax on the remittance basis

  • Amounts not reported as remittances which should be reported as taxable remittances

    • If your return considers any of these matters it is important to ensure that clear records are kept which can be provided to HMRC in the event of such a check.

    HMRC have also begun to issue what they call one to many letters, affectionately known in the industry as nudge letters, as a first step where they have a specific concern before issuing a formal compliance check.

    These letters ask a client to check their return and ensure they are happy with it in respect to a specific point.

    It may be time well spent therefore if you receive one of these letters to have the return reviewed and write to HMRC as appropriate explaining that the return has been checked and you do not believe it contains any errors with reasons provided. This may prevent a compliance check being issued and therefore prevent stress and professional fees down the line.

    UK Budget 2021 – The Autumn Spending Review

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    Against a backdrop of an increase in the projection for economic growth for next year from 4% to 6.3%, Rishi Sunak delivered today’s Autumn Spending Review.

    True to what was previously outlined, it seems the current Government have made a distinct move towards the Spring Budget where tax policy is announced and the Autumn being more an outline of where public funds will be spent.

    Many key note items had already been trailed in the previous days and weeks including the health and social care levy and change to the dividend tax rate and the property developer tax along with key spending initiatives on infrastructure and health care and the removal of the wage freeze for public sector workers. To help boost jobs and the recovery of the economy there was a freeze in corporation tax confirmed and business rates relief for the next 12 months for specific industries.

    While there was perhaps more to spend than anticipated, there remains a feel of a delay in tax rises rather than a complete reprieve, a when rather than if. There is also a question of why importance is attached to the office for tax simplification if none of its recommendations are to be implemented.

    The Finance Bill will be published on 4 November, and there may still be some surprises in the detail there. Otherwise, is it a case of waiting with anticipation until the March 2022 Budget.