26 Mar 2015

Non-resident CGT

Insights, Publications

Writing for Tax Journal (issue 1256), BKL tax adviser Andrew Levene answers a query on the tax issues surrounding a wealthy Hong Kong businessman’s investment in UK property.

Mr X is a wealthy Hong Kong businessman. He has decided to invest in UK property, a mixture of commercial and residential, some of which he will hold and some of which he may sell on. Mr X is resident and domiciled in Hong Kong, and has no plans to move to the UK. He has a son who is looking to study in the UK in the next two years. He will allow his son to live in one of the properties. What is the best way to structure the acquisition of Mr X’s properties?

Recent proposed changes to residential property taxation have made this a more complex scenario than previously. The legislation is still in draft form, so there is some uncertainty too.

Historic position
Historically, non-residents acquiring UK property have normally acquired the properties through a non-UK company, often from the Channels Islands or the Isle of Man, but also other jurisdictions depending on the location of the buyer. For investment property, the advantages are:

  • The company would be subject to corporation tax at 20%, rather than income tax at rates up to 45%.
  • Direct ownership of a property would be a UK situs asset for a non-UK domiciled individual within the scope of UK inheritance tax, but shares in a non-UK company would not be.
  • A non-UK company would not be liable to UK capital gains tax on the sale of the property (assuming it is not used for the purpose of a trade carried on by the non-resident in the UK).
  • The non-resident could sell shares in the non-UK company without UK capital gains or SDLT charge.

For a property acquired for resale, a company is preferable to personal ownership because, if treated as trading, the profit would be subject to corporation tax at 20%, rather than income tax at rates up to 45%. A non-UK incorporated company might still be a non-UK situs asset for inheritance tax purposes.
A UK company might be preferable, when the investor’s own country has anti-tax haven provisions. Personal ownership might enable double tax relief against tax in the investor’s own territory.

For commercial property, the position has not changed. The UK, unlike many other countries, does not generally tax non-UK residents on gains from commercial property. Nor has the position changed where the non-resident is regarded as trading.

Proposed new capital gains rules for residential property
For UK residential property, from April 2015 it is proposed that non-UK residents will be taxed on capital gains from the sale of UK residential property. There are two main exemptions:

  • Communal property, such as care homes or purpose built student accommodation, will not count as residential. Both traditional halls of residence and more modern arrangements of clusters of ‘flatlets’ for students can qualify. However, normal houses and flats that happen to be let out to students will be residential.
  • Widely owned companies, institutions and funds (as defined) will not be subject to the new charge.
    If Mr X wants to avoid the UK CGT charge, he could restrict his residential investments to exempt property. It is unlikely that Mr X could benefit from the widely held exemption, unless he was co-investing with a large number of unconnected persons.

For property not intended to be occupied by Mr X’s son (see below), a non-UK company may still be an attractive vehicle through which to invest. The income tax, inheritance tax and possible SDLT advantages are unchanged. However, the company will be liable to tax on gains on sale. It is proposed that companies will be taxed at 20% with an indexation allowance, whereas individuals will be taxed at 28% with no indexation. As Mr X is unlikely to be subject to any further tax in Hong Kong on the gain made, a non-UK company is still likely to be attractive.

A further benefit is that there are no proposals to charge CGT on the sale of companies which own UK residential property. Mr X could therefore still sell the company shares without CGT or SDLT.

Some of these benefits could be obtained using a UK company. However, a UK incorporated company would form part of Mr X’s estate for inheritance tax purposes. A UK company would not have to be managed and controlled from outside the UK, which can be helpful for some clients, although this might not be an issue for Mr X.

Occupation by Mr X’s son
Where a property is intended to be occupied by Mr X or connected individuals, the annual tax on enveloped dwellings (ATED) rules could apply. These apply to property owned by companies and other non-natural persons. Originally for residential properties worth more than £2m, the threshold is being reduced in phases to £0.5m. The SDLT aspects of ATED already apply to properties worth more than £0.5m.

The ATED rules impose an annual tax charge based on the value of the property, a penal SDLT rate of 15% on acquisition and a penal CGT rate of 28% with no indexation allowance. There are exemptions for properties used for genuine property rental, trading or development businesses, so the rules apply primarily where a property is used as a home by the company’s owners.

As Mr X is planning initially to use all the properties for property businesses, with no connected persons living in them, the ATED rules will not apply in the first instance, although exemption does have to be claimed. Once Mr X’s son starts to live in a property, if it is owned by a company (and over the threshold), an annual charge would arise for any period in which Mr X’s son is in occupation, and in some cases for earlier and later periods. If the son’s occupation starts within three years of acquisition, the penal 15% SDLT rate will be charged.

ATED charges can normally be easily avoided by holding the property personally. This might also allow Mr X to elect the property as his main residence, if he spends at least 90 midnights there in a tax year (although this might also make a taxpayer UK resident). However, there is a trade off with the inheritance tax position. If Mr X can identify the property which may be used for personal occupation, this could be acquired personally; while pure business properties could be acquired through a non-UK company. Mr X might borrow (whether from a bank or connected entity) to buy the property, so that only the net amount of property value should be included in his UK estate.