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Non-doms - use of foreign income and gains as collateral for a loan taken out to buy property in the UK

Sykes Anderson Perry Limited, a firm of solicitors and chartered tax advisers in London, England

This information has been prepared by Sykes Anderson Perry Limited as a general guide only and does not constitute advice on any specific matter. Tax law is complex and requires expert professional advice. We strongly recommend that you seek professional advice before taking or not taking action. No liability can be accepted by us for any action taken or not taken as a result of any information given or omitted.

Taxation of foreign income and gains of non-doms

Non-domiciled individuals (non-doms) have always enjoyed a more favourable tax treatment in the UK. This has been the government’s policy to attract wealthy foreign individuals to live and spend money in the UK. Although the rules in relation to taxation of non-doms have become stricter in the past few years, non-domicile status in the UK is still attractive for a variety reasons. A non-dom can elect to be taxed on a remittance basis, which means that his foreign income and gains will only be taxed if remitted (i.e. brought) into the UK. Any UK income and gains and foreign income and gains brought into the UK are subject to UK tax.

Taxable loan arrangements

The legislation went further to say that (subject to the very wide concession below) where an individual borrows money to use in the UK and provides his foreign income or gain as security for the loan, the loan, once brought into the UK, becomes a taxable remittance. In certain cases this may result in a taxable remittance of twice the amount of the loan as, apart from using foreign income and gains as collateral the individual may need to use his other foreign income or gains to make loan repayments which will also constitute a remittance.

Concessional treatment of commercial loan arrangements

Up until now it was possible to avoid the double remittance charges thanks to HMRC’s concessional treatment of commercial loan arrangements. HMRC’s position was that where a loan was made on commercial terms and was regularly serviced from foreign income or gains HMRC would only tax payments of interest and repayments of capital but not the use of the collateral unless the lender exercised its security by taking possession of the collateral in which case there would be a deemed remittance. This meant that there was no tax charge when the borrowed funds were brought to the UK, the charge arose only when servicing payments were made. It also appeared clear that if there was an offset arrangement whereby the effective interest rate on the loan was reduced as a result of the bank not paying interest on the capital, this would not be treated as a remittance. This type of structure was extremely tax-efficient for non-doms. The concession was wide enough that it would apply in almost all back-to-back loan arrangements.

Say, you obtain a £1.5 million loan facility from a bank in Switzerland offering £1.5M of your foreign gain (say, part of the proceeds of the sale of your French property) as collateral. You use £1 million to buy a London home for your family. In line with HMRC’s previous position, you would only have to pay tax on the interest and capital repayments (if made using offshore income or gains) but you would not have been taxed on the £1 million brought into the UK to pay for the property.

Change in HMRC’s view

HMRC has recently changed its view in relation to loan arrangements and has withdrawn its concessional treatment of back-to-back loans. Now, both your foreign income/gains used as collateral and foreign income/gains used to make loan repayments will be treated as remittances and subject to UK tax. HMRC explains the sudden withdrawal of the concession by the fact that a large number of arrangements which benefitted from it are in HMRC’s view not commercial in nature and it was not intended that they fall within the scope of the concession. The concession was intended to only benefit arrangements where there was at some stage a taxable remittance in relation to the loan, i.e. when a loan repayment was made. Where no foreign income or gains are used to make repayments no remittance charge arises at all - this is the scenario HMRC does not want to allow.

Steps to take

Arrangements already in place

If you have such a structure already in place, you need to take action now in order to avoid a charge. You will have to provide HMRC with full details of the loan arrangement including the amount of foreign income or gains used as collateral and the amount of the loan used in the UK. To avoid the charge you will need to repay the loan or replace the foreign security with a UK security before 5 April 2016. If no notification is made or the arrangements are not unwound within the permitted period the arrangements will be taxed. This may attract further charges if you need to bring further taxable funds into the UK in order to pay the tax on the original remittance.

Borrowing going forward

You will need to reconsider any debt structuring going forward. If you use your foreign income or gains or property derived from such income or gains as security, the amount of the loan remitted to the UK will now inevitably taxed. Any repayments of the loan may need to be made using UK funds to avoid a second remittance charge.

August 2014