Bankers, lawyers and other wealth management professionals were found rushing from their sunbeds to their blackberries in early August, as the UK Revenue (HMRC) announced a very significant change to the taxation of UK resident non-domiciled individuals (RNDs). As of 4 August 2014, RNDs can no longer use their non-UK income/gains as security for a loan without triggering a taxable remittance, and now need to unwind any such existing loans that are in place to avoid such a tax charge.
RNDs can elect to be taxed on the remittance basis, a separate regime designed specifically by the Government to attract wealthy foreigners (and their capital) to the UK. It means that RNDs only pay UK tax on income/gains which arise in the UK, or non-UK income/gains which they remit (broadly, bring into) the UK. Non-UK income/gains kept outside the UK are sheltered from UK income tax and capital gains tax.
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Well-advised RNDs typically segregate their capital sources, usually referred to as ‘clean capital’, (such as inheritance, or wealth generated prior to UK residence), from income and gains which are generated whilst UK resident. Clean capital can be remitted to the UK without triggering UK tax. Or to put it another way, provided that an RND segregates clean capital into a pot that is not mixed with non-UK income/gains, that individual can bring such clean capital into the UK tax-free until the clean capital pot runs out.
The problem for many clients is that this pot often does run out. Whatever the reason – because they stay in the UK longer than anticipated, because they spend their clean capital too quickly or because they hadn’t segregated capital properly in the first place – many clients find themselves with less clean capital than they would like.
A reasonably common solution to this was, until recently, to obtain a loan from a bank, secured on the individual’s non-UK income/gains. There was disagreement among the profession as to whether or not such a loan might itself cause a taxable remittance, but HMRC’s approach had always been very clear; provided that the loan was serviced (in respect of interest and the like) out of clean capital sources, there was no taxable remittance.
As a consequence, large numbers of RNDs relied on HMRC’s position and entered into such loan arrangements with banks to fund their UK spending.
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By GlobalDataOn 4 August 2014, however, HMRC changed its mind; using non-UK income/gains as security does, in their opinion, now trigger a taxable remittance. In addition, RNDs have until April 2016 to either repay the loans or offer alternative security, and to make matters worse, RNDs must also provide details of all such existing loans to HMRC.
The change is controversial for many reasons, but principally because it marks a new phase in HMRC’s attack on perceived tax avoidance. It is normal for the Government through legislation to change rules; that is how the Parliamentary system works. However, this is HMRC unilaterally changing their minds about something that they previously said was fine. It is an entirely new approach; whilst changing the rules to catch such planning moving forwards might have been palatable, making RNDs unwind loans that have been structured relying on HMRC’s previous practice seems extremely harsh.
Scenarios of where individuals may be unduly prejudiced by this announced change are numerous, such as the individual who exchanged on a property purchase shortly before 4 August, with a loan secured on non-UK income/gains lined up for the balance. Such an individual may now be locked into a purchase that is prohibitively expensive.
The change also presents a huge headache for banks, who will find clients (i) needing to repay loans early, or (ii) asking the bank to accept alternative security. Penalties and charges are unlikely to be palatable to many clients who will be forced into such action, so banks will need to demonstrate flexibility if they are to avoid run-ins with their clients.
Various lessons can be taken from all of this. The first is that HMRC’s guidance cannot and should not be relied on, particularly in the current political climate and certainly not in instances where such guidance appears to provide favourable outcomes to the taxpayer. If that was not sufficiently clear following the case of Gaines-Cooper, it must be now.
Second, all tax structuring now needs to be bespoke. Any single tax strategy which is pursued by lots of different people will present a much greater risk of being successfully challenged by HMRC.
Finally, most RNDs, particularly those with more complicated affairs, should consider ‘health-checking’ their tax planning to assess whether they need to arrange their affairs to reflect the new UK tax environment and consequent level of tax exposure and risk. The boundaries have shifted enormously; tax planning once considered benign may no longer be viewed as such by HMRC. It is far better to be ahead of the curve than trailing behind it, like the RNDs with loans secured on non-UK income/gains, who will now no doubt need to seek advice and carefully weigh up their options.
Glen Atchison is the Head of Tax and the Private Client practice at London law firm Harbottle & Lewis. Chris Moorcroft is a senior associate at the same firm.
