A New Safe Harbour for Non-UK Domiciliaries
In their consultation document earlier in the year, the Government announced a range of measures designed to ease the tax compliance burden on UK resident, non-UK domiciled individuals (RNDs).
It had become clear that the complexity of the remittance rules introduced in 2008 has acted as a disincentive from making investments into the United Kingdom at a time when inward investment would be welcome. In response to this, the Government announced that it would create a specific exemption from the remittance basis to encourage investment into the UK. In the normal course of events, without the exemption being available, if a RND brings unremitted foreign income or gains into the UK in order to make a UK investment (or for any other purpose), the income or gains would be treated as remitted and thus would be taxable. The aim of the new rules is to provide that there will be no taxable remittance in such circumstances so long as certain conditions are satisfied.
The draft legislation was published on 6 December 2011. A consultation followed, which generated vigorous debate. The final rules were published in the Finance Bill 2012 on 29 March. The following is a summary.
What investments may be made?
Remittances will only be exempt if they are made into an eligible trading company (or a holding company which in turn invests in eligible trading companies). An investment directly into UK real estate, for example, would not be exempt. There is no specific requirement that the company be a UK company, although investment into a non-UK company would not generally be a remittance under the existing rules. Investment into a non-UK company which in turn invests into the UK may be a remittance in certain circumstances under the existing rules. If that were the case, then to attract the exemption, the onward investment into the UK would need to be made into an eligible trading company.
An "eligible trading company" is a private limited company, which carries on one or more commercial trades (or is preparing to do so within the next two years – the so called "start-up rule"). Carrying on a commercial trade must be substantially all of what it does. The exemption may also apply to investments into an "eligible stakeholder company" - broadly speaking, a holding company for eligible trading companies.
Eligible companies must be limited liability companies, and none of their shares may be listed on a recognised stock exchange. A “recognised stock exchange” is one of those on a list published by HMRC, which includes (for example) the main London Stock Exchange but does not include AIM and other alternative markets.
Partnerships, Limited Liability Partnerships and other non-corporate entities are outside the scope of the relief. The Government is concerned about the possibility of tax avoidance using partnerships, but recognises their significance in a range of sectors including venture capital, private equity and professional services firms. It is evaluating whether there may be any scope for widening the relief to include partnerships in Finance Bill 2013.
For the purposes of the exemption, "trade" bears its normal corporation tax meaning, and additionally includes a business carried out for generating income from land, which – it has now been confirmed – helpfully extends to both residential and commercial property. When determining whether a company qualifies for the relief or not it will be crucial to examine carefully whether it is "trading". The consequences of investing into a non-trading (or non-eligible) company are severe, as this would clearly trigger a non-exempt remittance of foreign income and gains.
The Government has recognised that it may not be immediately clear whether a particular company would be an eligible trading company. It has therefore proposed that individuals will be able to ask HMRC for an advance opinion of whether an investment will qualify for relief. HMRC have indicated that this opinion will need to be requested using the "CAP 1" service, whereby "non-business" taxpayers may seek advice on HMRC's interpretation of recent legislation. Taxpayers will be able to make such requests once the Finance Bill has received Royal Assent, and we anticipate that HMRC will update their "CAP1" guidance to explain in greater details how a request for an advance opinion can be made.
How does the exemption work?
The rules only apply where foreign untaxed income and gains are brought directly into the UK and then used to make an investment. They would not apply, for example, where borrowing is taken out to make an investment and where the income and gains are used to repay or service the borrowing. The Government has made it clear that this repayment of loan interest and/or principal would still be a remittance.
The investment must take the form of shares (defined as "any securities") being issued to the investor, or a loan from the investor to the target company. It appears that secondary market purchases of shares will not qualify, so great care will need to be taken when structuring investments.
The investment must be made within the period of 45 days beginning with the day on which the money is brought to the UK.
The rules operate not only to exempt a remittance by the taxpayer himself, but also a remittance by his "relevant persons" – the category of persons defined in the remittance rules which include a spouse, children or grandchildren under 18, and trusts and closely-held companies associated with the taxpayer. Accordingly, exempt investments may be made by certain categories of trusts and companies as well as by individuals.
Whether the taxpayer makes the investment directly, or whether it is made by a relevant person, including an offshore trust or company, it will be necessary for the taxpayer himself to make a formal claim for the relief, as it is he who would be taxed on the remittance if no claim was made. The claim must be made on or before the first anniversary of the 31 January following the tax year in which the funds would otherwise be regarded as remitted.
Multiple investments may be made under this safe harbour. Detailed technical rules apply to the way in which multiple investments are treated. Essentially, they are treated as a single holding for the purposes of the remittance exemption, which is significant if any of the investments breaches the exemption conditions.
Avoiding "benefit" to the taxpayer and related people; and other anti-avoidance rules
The Government is clearly sensitive to the risk that the new rules may be abused, and has therefore included a number of draft rules which are aimed at stopping the exemption being used to benefit non-UK domiciliaries in the UK:
The Government is clearly concerned to ensure that the exemption is not used as an indirect way of providing benefits to the taxpayer in the UK. There are detailed rules which are aimed at ensuring that no "relevant person" could benefit from the investment. For these purposes, "benefit" would not include the provision of anything to the relevant person in the ordinary course of business (such as directors' fees on arms length terms).
In certain circumstances described as "chargeable events", the income and gains used to make the investment will be treated as remitted if the investment is disposed of, or where the target company ceases to be an eligible trading company, or value is otherwise extracted from the target company or a related company, after the investment has been made.
If the "chargeable event" is a disposal of the investment, then a grace period of 45 days runs, during which the proceeds of sale must be transferred out of the UK or reinvested in other eligible companies in order to avoid triggering a remittance. A longer grace period of 90 days may run in other cases (for example, where value is extracted from the target company). HMRC has discretion to accept a longer grace period in particular cases.
If CGT is payable on the disposal of the investment, there is a relaxation of the rules to allow funds to be retained in the UK to meet the CGT liability, without triggering a remittance. Detailed rules apply, and full details must be disclosed to HMRC in a formal confirmation letter.
In addition to the above specific rules, there is a more general "anti avoidance" rule in the draft legislation, which provides that the exemption does not apply if the transaction is made "as part or as a result of a scheme or arrangement the main purpose or one of the main purposes of which is the avoidance of tax". To date, the Treasury has not clarified the scope of this rule.
Further points to note
One of the questions that had been raised during the consultation process was what the treatment of the investment into the UK would be where it was made from mixed funds - broadly speaking, funds including a mixture of clean capital, various categories of capital gains or various categories of income. The 2008 remittance rules contain detailed (and somewhat convoluted) technical rules which deal with how precisely the mixed funds would normally be taxed if remitted to the UK. The Government has put forward a specific proposal for the way in which the new investment exemption dovetails with the mixed fund rules. In essence, investments from a mixed fund (and other related transactions) will be treated as "offshore transfers", meaning that a proportionate amount of income and gains in a fund will be deemed to be transferred into the investment. Put another way, it will not be possible to "clean up" a mixed fund simply by investing an amount equal to the income and gains in the UK, because the balance remaining in the fund will continue to represent a proportionate amount of income and gains.
Once an investment has been made into the UK under the new rules, income and capital gains generated by the UK investment will be taxed in the UK in the normal way. The taxation treatment may be different if the investment is made through a structure such as a non-UK trust or company.
It is possible that, subject to other conditions applying, the UK investment may also qualify for other reliefs. In particular:
- Enterprise investment scheme (EIS) relief treatment may be available, meaning that a reduction in the tax due on the taxpayer’s UK sources of income may be available where he invests in eligible investments;
- "Entrepreneur's relief" from capital gains tax may apply if the investment is disposed of at a profit; and
- "Business property relief" from inheritance tax should apply in most cases, meaning that the taxpayer’s estate should not be subject to inheritance tax if he dies after holding the investment for two years or more.
If you have any questions relating to the draft rules, please do not hesitate to get in touch with your usual contact.
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