HMRC's whiplash tax change will leave res non-doms with sore wallets

This regime is designed to attract wealthy foreigners (and their capital) to the UK, since RNDs only pay UK tax on income/gains which arise in the UK, or non-UK income/gains which they bring into the UK

For some, August means sandy beaches, chilled ros’ and long summer evenings. However, for the UK Revenue, August 2014 meant making 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 loan arrangements that are in place to avoid such a tax charge.

One of the most significant advantages of being an RND is the ability to shelter non-UK income and gains from UK tax by claiming the remittance basis of taxation and not remitting into the UK such non-UK income and gains.

This is a regime designed specifically 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.

Well-advised RNDs typically segregate any capital source, often referred to as 'clean capital', which is not income or gains, eg inheritance. Clean capital can be remitted to the UK without triggering UK tax. In other words, 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.

Unfortunately, for many clients this pot often does run out. Sometimes they end up staying in the UK longer than they expected; sometimes they spend their clean capital quicker than they expected; or sometimes they fail to properly segregate the clean capital from non-UK income and gains in the first place. Whatever the reason, many clients find themselves with less clean capital than they would like.

A solution to this was, until recently, to obtain a loan from a bank and to secure the loan on the individual's non-UK income/gains. For many years, UK tax advisers have differed in their views as to whether using the non-UK income/gains as security for the loan in fact caused a taxable remittance (and thus triggered a UK tax liability).

Notwithstanding this academic debate, 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, a large number of RNDs relied on HMRC's position and entered into such loan arrangements with banks to fund their UK spending.

On 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 unwind the loans they have in place 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. This is not a new parliamentary rule, nor a new tool to clamp down on avoidance; this is HMRC unilaterally changing their minds about something that they previously said was fine.

It is an entirely new approach; while 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 where individuals may be unduly prejudiced by this 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.

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 and so 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 firm