Mike Strutt on why the new non-dom legislation issued last week is not a source of despair for HNWs so long as they have the right life insurance in place.
Lord Jenkins of Hillhead once famously said that ‘Inheritance tax is a voluntary tax, paid by those who distrust their heirs more than they dislike the Inland Revenue’. This was once a credible statement but recent changes to non-dom tax legislation that were announced last week (December 5) mean that everyone who calls the UK home, and some who don’t, will all begin to feel the impact of inheritance tax (IHT).
It has always been the case that UK nationals pay IHT at 40 per cent on their worldwide estates on death. Inter-spousal exemptions are available (a very good reason to get married) and the first £325,000 of one’s estate is normally exempt. This nil-rate band has been frozen for some time and will remain at this level until 2021. For the majority of those people reading this, a large proportion of their estates will hence be subject to IHT on death.
An often-used route to getting round this problem is to make a Potentially Exempt Transfer (PET). If one makes a PET (basically a gift to a family member or someone else) and then one survives for 7 years, the value of the gift will be outside of one’s estate for IHT purposes. This is perfectly legitimate planning, despite the furore caused by ignorant members of the press when David Cameron’s mother made such a gift (two instalments of £100,000 after Cameron’s stockbroker father died). If the donor dies during the seven year period, some or all of the gift will become chargeable to IHT.
Historically many UK families used trusts to lessen or defer the impact of IHT. Changes to the taxation of trusts in 2006 mean that transfers into trust are now all taxed at 20 per cent immediately, thereby rendering the creation of new trusts as inefficient.
The picture for non-doms is also unsavoury. The time frame within which one now becomes deemed domicile (for all personal taxes) is decreasing in April 2017 from 17 to 15 out of 20 years. Having become deemed domiciled, non-doms are liable for IHT on their worldwide estates with a carve out for what is known as ‘excluded property’. In essence this constitutes assets that were settled into an offshore trust prior to becoming deemed domiciled.
The really big news is in relation to UK residential property. It has always been the case that UK situs assets (such as UK property) attract IHT, irrespective of non-dom status. However, many non-doms, whether UK resident or non-resident, have traditionally held UK residential property in offshore structures, either trusts or companies or both.
These structures provided an IHT shelter for the property. New legislation that takes effect in April 2017 means that shares in offshore companies that have an interest in UK residential property will no longer constitute excluded property for IHT purposes. Furthermore, settlors of offshore trusts who live in UK properties owned by offshore trusts may now face IHT charges on death. It is estimated that £200 billion of UK residential property (12 per cent of the UK housing stock!) is held in such structures and that from April 2017 this will come into the scope of UK IHT.
This is not a reason for despair. In this age of intense scrutiny of tax arrangements, all wealthy families have ‘planning fatigue’. A non-contentious, simple solution is required to a problem that many are facing for the first time. It is widely acknowledged among leading tax advisers and lawyers that a life insurance policy to cover potential IHT liabilities provides such a solution. Whether written on single or joint lives, life insurance can provide an inexpensive, secure and non-correlated means of providing one’s beneficiaries with the liquidity to pay IHT without the fire sale of assets that death often necessitates. Furthermore, if structured correctly, the claim proceeds of a life insurance policy will not form part of one’s estate on death, further enhancing the efficiency of this solution.
Specialist advice is required when a high-value life insurance policy is needed by either UK resident or non-resident non-doms. Detailed knowledge of underwriting complexities and reinsurance treaties is key to acquiring optimum rates.
Mike Strutt is a director at Risk Assured (email: firstname.lastname@example.org)